May 25, 2011

Fonterra expresses concern about falling milk prices

Fonterra Co-Operative Group Ltd. signalled caution over decreasing demand for milk products and the challenge posed by the New Zealand dollar's ongoing strength, forecasting an on-year decline in its payout to farmers in 2012.

"Recent months have been characterised by a softening in commodity prices and continued strength in the New Zealand dollar," said Henry van der Heyden, Fonterra's chairman.

For the year starting June 1, the company forecast it will pay its 10,500 farmers NZD7.15 (US$5.68) to NZD7.25 (US$5.6) a share, comprising a forecast milk price of NZD6.75 (US$5.4) a kilogram of milk solids and a forecast distributable profit range of NZD0.40 (US$0.32)-NZD0.50 (US$0.4) a share. The payout could be NZD0.95 (US$ 0.75) cents lower, or about 10% below, the current year's record payout. The price suggests overall 2011-12 dairy revenues in the vicinity of NZD11 billion (US$8.7 billion).

Growing uncertainty over the strength of global growth spurred by the euro-zones ongoing debt crisis and concerns over China's economic outlook have weighed on commodity prices in recent weeks. Whole milk prices have fallen about 16% in Fonterra's latest internet auction compared with early March. The auctions, held twice a month are widely considered a benchmark for milk prices and are closely watched by traders. Farm commodity prices fell 6.6% in US dollar terms in the 18 days ended May 16, but have gained 2.6% since.

Van der Heyden's warning comes as Goldman Sachs Group Inc. (GS) cut its growth forecast for China and much of the Asian region, key markets both for New Zealand and Fonterra going forward. Dairy exports make up nearly a quarter of total merchandise exports and "Asia now takes more than half of New Zealand's dairy exports, by value."

Formed in 2001, Fonterra supplies milk, cheese and yogurt to 140 markets world-wide. Generating about NZD17 billion (US$13.5 billion) annually, the company employs a complicated hedging strategy to smooth out the effect of foreign exchange fluctuations up to 18 months in advance.

To be sure, the forecast payout will still return NZD11 billion (US$8.7 billion) to the country's dairy farmers at a time when the Pacific nation's economy has been hard hit by the strength of its currency and the cost of devastating earthquakes hitting its second-largest city, Christchurch. The New Zealand dollar is up about 20% on-year, adding to pressure on the country's exporters.