Fonterra Chief executive Theo Spierings, post Interim Results press conference and the announcement of his departure.
As an old story tells it, the dairy industry stars who wanted to create Fonterra rolled up to Helen Clark's Government with the legislation already written by a law firm and the 2001 date by which they wanted it implemented.
Those were the days when dairy kingpins said "jump" and politicians asked "how high?"
Fast forward to winter 2018 and the political and commercial landscape couldn't be more different for the dairy co-operative and its leaders.
The performance, investment capability and leadership of the $19 billion revenue company that was promoted as our national champion have been publicly scorned after huge capital losses, food safety scares and an associated costly courtroom loss to French food giant Danone.
Cabinet Minister Shane Jones brought things to a head last week when he urged Fonterra chairman John Wilson to follow chief executive Theo Spierings out the door.
O'Connor, in an interview for this story, gave the board another serve.
"I have to say that Fonterra having two board members who are part of the company that audited their organisation for so many years doesn't seem to be a terribly strong ethical position."
O'Connor was referring to former PwC senior executives Bruce Hassall and Brent Goldsack. Fonterra declined to comment.
But the pressure doesn't stop at the Beehive.
Dairying is struggling to hold on to its social licence to operate amid environmental angst and new regulations. And the Government is holding a review of the industry that looks as though it means business.
The probe's main focus is the fitness of the Dairy Industry Restructuring Act 2001 (DIRA), the legislation that deregulated dairy exporting and enabled Fonterra's creation from a mega-merger, bypassing the Commerce Commission.
Even the Fonterra Shareholders' Council — itself under fire from its constituents and politicians for an allegedly limp performance in holding Fonterra's leaders to account — is reviewing the company.
In the middle, dismayed and frustrated by the headlines, political attacks and the apparent loss of up to $1.5b of their capital in China investments, are Fonterra's 10,000 farmer owners.
Their anxiety has been soothed by Fonterra's forecast price of $7/kg milk solids this season — but even the sustainability of that is open to question given world trade jitters.
Holders of listed Fonterra units aren't happy either. The more Fonterra lifts the milk price to farmers, the more the dividend is squeezed, pushing down the share price.
Fonterra's shares have slumped from $6.50 in January to nudge $5 this week.
The company's value-added product strategy is slow-moving and slow in delivering — mostly a result, observers say, of insufficient capital and the inadvisability of competing against its customers.
Fonterra chief executive Theo Spierings will step down this year. Photo / File
If all this wasn't enough, New Zealand milk growth is said to have peaked, forcing Fonterra to compete against increasingly bold processing rivals for a shrinking pool of milk (which could partly explain its $7 forecast).
No additional milk also means no more capital for Fonterra, which requires its suppliers to buy shares.
And to top it off, as dairy specialist and economist Peter Fraser puts it, "Fonterra's never been loved at home".
Employing former All Black captain Richie McCaw as its roving ambassador and supplying free milk to schools has been interpreted as "greenwash", says Fraser, while public hostility has focused on dairying's environmental impact. And having to pay world prices at the dairy chiller in a country teeming with cows really irks Kiwis.
While little about Fonterra is simple, from its legislated beginnings to its oddball hybrid shareholder structure, two things are plain.
Something's got to give, and a significant enforced change to the way Fonterra operates looks like being a real possibility.
That's not just because some politicians have a head of steam up, but because of the cocktail of pressures building up.
[Farmers] would never support [breaking up Fonterra] and there would be massive tractors on the steps of Parliament.
Top of the list is a shortage of capital. Second is the question of why Fonterra doesn't just stick to what it is widely seen as being very good at — making and exporting high quality commodities and commodity-type ingredients for food service.
Why is it pitching for the sophisticated fast-moving consumer goods market, which requires a lot of capital investment and puts it in competition with its big international customers?
Change is inevitable because Fonterra has "a major issue around capital", says an influential shareholder who spoke on condition of anonymity.
"It's the first time that farmers can remember that milk's not growing. That means no more capital for Fonterra. It's also losing market share." (When Fonterra started, it had 96 per cent of the raw milk market. Latest figures put its share at 82 per cent, but that is expected to slip when last season's data comes out.)
The shareholder reckons Fonterra will have to sell assets "to survive".
O'Connor says the Government won't be unilaterally reforming Fonterra.
Farmer-shareholders will make the ultimate decision about their co-op's structure and direction, he says.
But the Minister also notes the "options for change are wide open" under the current DIRA review.
"The idea for breaking up Fonterra has been in place since its formation and [has been] driven by parts of the industry that believe there is huge value to be gained by cutting off the value part of the enterprise.
"That view is shared by many in the wider investment and corporate world, who like hyenas, are wanting to pick up some benefit from any breakup."
Within the industry, a popular solution is for Fonterra to be broken up into a farmer-owned co-operative producing commodities, and a separate company, open to outside investment, to make branded, value-added products.
It's not new thinking. Fonterra's farmer-shareholders jettisoned this proposal a decade or so ago and instead, in the hunt for new capital, voted in the hybrid structure called Trading Among Farmers (TAF), which market commentators say has created tension between shareholder classes and undermined the co-op's strength.
"It's incredibly naive because there is a thing called the market. I would've thought the market was by far the best means by which outcomes would emerge as opposed to someone in government, by way of policy, trying to produce something because that is their particular view of the world this week."
Lockhart notes that New Zealand dairying had the two-company model before the mega-merger which formed Fonterra.
"Arguably the commercial company was something called the Dairy Board."
Fonterra was never going to hold its market share of 17 years ago, he says. And it is "naive" to expect the Fonterra solution in 2001 to last for 20 to 30 years.
For Lockhart, it's "fundamental and non-negotiable" that the industry needs a strong co-operative.
"The second question becomes how big does that co-operative have to be to set the milk price?
"We've had absolutely unrealistic expectations of Fonterra in terms of maintaining market share in the face of enormous direct foreign investment into the industry."
Introducing TAF was one of Fonterra's most "ridiculous" decisions, says Lockhart.
"That decision, and the run-up to that, and the conflicts of interest that various people had that resulted in TAF, has accelerated not exactly the demise of Fonterra, but the unravelling of a lot of what it was intended for."
The result has been unhealthy competition between shareholder classes for returns, eroding the share price and farmer capital, Lockhart says.
He says dairying's social licence to operate must be recovered and a strong, healthy co-operative is essential as its cornerstone.
"I think we are at a very risky stage, should the Government, for whatever reason, ideological or otherwise, start pulling the wrong levers here. Panic among the ranks that we've got to do something is absolutely the wrong thing to do."
O'Connor sees "some dangers" in the idea of breaking up Fonterra.
"New Zealand farmers who receive neither protection nor subsidies depend on their ability to get from the consumer enough value to pay for their farming enterprise. The vertically integrated value chain is the only opportunity to do that in the long term. The alternative is to be producers of a raw material that gives them very little leverage over their price or contractual supply obligations."
Fonterra's shares have slumped from $6.50 in January to nudge $5 this week. Photo / 123RF
But independent economists Cameron Bagrie and Peter Fraser say there's a case for a breakup.
Bagrie, former chief economist at ANZ, says: "There's a major issue between the economic incentives of the two parts of the business. One part is trying to maximise milk payments and the other is trying to maximise value-added. When one does well, the other tends to suffer."
Fraser, a former Treasury and Agriculture Ministry economist, says for NZ Inc, the Fonterra "experiment" has been a failure.
"This is reflected in its woeful sharemarket performance and failure to do much else than ship bigger volumes of milk powder."
Fonterra always had a 'lots of eggs in one basket' strategy.
"If New Zealand wants a higher value industry — critical given peak cow, peak milk — we need multiple baskets. Fonterra's fundamental problem is it is cash-strapped and doesn't have the money to fund things like a half-credible value-add strategy."
Fraser says a Fonterra breakup would mean the milk price manual, the Bible of national milk price setting, "is up for grabs".
He claims Fonterra artificially inflates the milk price, pushing down the dividend and the share price, which results in Fonterra being under-valued by about $6b. Cue the entrance of O'Connor's "hyenas".
National Party agriculture spokesman Nathan Guy says there's no need to "smash Fonterra apart".
"Splitting the consumer and food businesses would be a logistical nightmare because [the] value-added [operations] are often in the large manufacturing factories. The current structure has good vertical integration and economies of scale and the co-operative would disappear."
Dismantling the share trading platform would be a "bureaucratic nightmare", Guys says, and breaking up Fonterra would require a farmer vote.
"They'd never support it and there would be massive tractors on the steps of Parliament."
Shareholders' Council chairman Duncan Coull says it would be "extraordinary to unbundle what has been created".
"Where do they have the power to do that?" However, the council and shareholders are concerned about "loose comments from politicians about our future", he says.
"We accept we were formed on the back of legislation ... but in terms of our co-operative structure itself, our shareholders exercise their control through the constitution which is the domain of shareholders."
O'Connor says the council has contributed to the questions hanging over Fonterra.
"I think the shareholder council has finally woken up and is undertaking the role for which it was created. These hard questions should have been asked through the years to monitor Fonterra's performance." Coull declined to respond.
Massey's Lockhart says Fonterra is doing, and has done, "a very, very good job in maintaining their dominance in the New Zealand market".
But as a result of foreign direct investment in New Zealand being encouraged by successive governments, overseas interests have arrived and bought dairy products at relatively low prices to add value, he says.
"The question that should be asked, is why is that not being done by New Zealand companies?"
Fonterra is between a rock and a hard place in the debate over its value-added capability.
We've had absolutely unrealistic expectations of Fonterra in terms of maintaining market share.
As a creature of statute, given a head start to be a national economic champion, it was, and still is, expected to be successful in adding value.
But it has also been hamstrung by a regulatory obligation to collect and process all milk offered to it, economic or not, and as a farmer-funded co-operative, by capital constraints.
Nevertheless, it has ploughed on in the past six years with a value-added strategy.
Today the market consensus, even among its own shareholder ranks, is that the strategy isn't working and is not well-understood.
So why doesn't Fonterra just stick to what it's very good at — commodities and high-spec ingredients? That's what pays the milk price to farmers.
Fonterra responds that its job is to achieve the highest total payout for its farmers — not just a good milk price.
The company says its value-adding strategy is getting results and has helped offset the impact of global commodity milk price fluctuations.
"The potential commercial upside of the strategy is significant with promising growth opportunities. For example in FY14 our consumer and foodservice business generated $129 million and by FY16 this had grown to $580 million. Today our China business has an enterprise value of $5 billion, a 27 per cent increase in the past three years alone and with more exciting opportunities to come, thanks to new partnership with the likes of Alibaba," the company said in a statement.
Today, "ingredients" — as Fonterra classes its commodity and higher-spec business, brings in two-thirds of its earnings.
Last year, normalised earnings before interest and tax (ebit) for the ingredients business was $943m, 22 per cent down on the previous year.
Ebit for the value-added consumer and food service business was up 6 per cent at $614m. Food service revenue passed $2b for the first time.
In the first six months of the current financial year, ingredients revenue and normalised ebit were each up 9 per cent at $678m and $558m respectively.
Consumer and food service revenue was up 7 per cent at $3.5b while ebit fell 38 per cent to $193m due to pressure on cost margins.
The Herald understands some directors have unsuccessfully argued for Fonterra to stick to commodity and food service products.
Industry commentator and former Lincoln University professor Keith Woodford says Fonterra's "weak" performance with branded consumer products warrants asking the question why it doesn't just stick to doing what it's good at.
"But if dairy is to be a cornerstone of the New Zealand economy, there does need to be a focus on genuine value-add by the dominant company. To a large extent, Fonterra's woes have been predictable and were predicted.
"Fonterra has never understood the weakness of its own organisational culture which is inimical to flying high with branded consumer products. This is why some of us always thought a different company structure with a second allied company to focus on value-add was worthy of serious consideration."
Woodford says Fonterra's messaging on its value-add activities has always been opaque, but the fundamental problem is not that the strategy is misunderstood at home, but that it has not engaged successfully with overseas consumers.
