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Processing 22bn litres of milk last year, Fonterra is not only the world’s largest processor, it is the world’s largest dairy exporter with about a fifth of the global traded dairy market. It has almost 50% share of the WMP export market, 16% of SMP and 39% share of butter export market. No doubt, Fonterra has increased the value of New Zealand milk and encouraged volumes to grow. However it has not been without its challenges in recent years.
The farmer-controlled co-op started life in 2001 controlling 97% of the 13bn litre milk supply in New Zealand. In the intervening 15 years, New Zealand milk output has grown by 60% close to 21bn litres but Fonterra’s share of the milk pool has fallen below 85% in 2016.
Aside from the growth of a number of smaller dairy processors in New Zealand, one of the principal reasons for Fonterra’s declining supply share is its perceived disconnect with farmers in recent years. Many farmers that have walked away from the co-op argue that Fonterra became too corporate as it grew and had forgotten its co-op roots.
However, Fonterra chief executive Theo Spierings, a Dutch national who joined the company six years ago from FrieslandCampina, is slowly turning around the business after some difficult years, particularly for its farmer suppliers.
Fonterra has invested close to €2.3bn in recent years in capacity expansion and product development as it seeks to develop its strategy to move more milk into products at the higher-value end of the dairy market.
Yet, Fonterra’s business is firmly steeped in the manufacture of dairy-based ingredients, with more than two-thirds of earnings (67%) derived from its ingredients division.
The investment in capacity has allowed Fonterra to become more flexible during its peak milk supply months. This means the processor is putting less milk into lower-value commodities such as whole and skimmed milk powder (WMP and SMP) and more towards higher returning products such as casein.
The success of this strategy is evident in Fonterra’s financial results last year, where profit margins in the business recovered to a solid 8%.
The importance of China to the success of New Zealand’s dairy industry cannot be understated but its recent investments there have not been performing. Fonterra is highly dependent on the Chinese market and has recently invested to create a joint venture business with Beingmate, the infant formula company.
Although Chinese authorities are currently in the process of regulating the number of suppliers that can sell infant formula into China, Fonterra expects to be one of the first dairy companies in the world to be awarded this new registration requirement. With this in mind, the dairy co-op has also teamed up with Alibaba, China’s online retail giant, to explore new routes to market through e-commerce sales. Fonterra has also invested heavily in establishing an on the ground, integrated dairy business in China, with two farms now producing almost 230m litres of milk per annum. However, the investment has struggled to make a profit and returned a loss of €38m last year.
The company invested €600m in capital expenditure last year and completed the construction of the biggest milk drier in the world, capable of processing 4.4m litres per day and drying 30t per hour.
The business has been transformed from loss-making brands and contracts with ingredients losing $92m, to ingredients making profits of $63m last year.
The company is focused on developing its cheese, whey and nutritional streams while growing its consumer and food service brands. Over the past two years it has moved more than 1bn litres of milk into higher-value consumer foods.
Around 20% of the milk today goes to consumer and food service, with 60% of the milk going to ingredients. In recent years it has been putting less milk into the GDT auction with only 20% of milk volumes traded on the GDT last year.
Fonterra paid a final milk price of $6.15/kg of milk solids (26.4c/l) for its 2016/17 milk season. Fonterra produces and sells three distinct groups of dairy ingredients, powders, cheese and protein.
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