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Current as of 29/05/17 06:40AM NZST

Biting a chunk out of Fonterra

By Owen Hembry

Despite raising its forecast payout for this season to a new record high, returns from the value-add component of Fonterra's business remains well down on last year.

The valued added part of the business includes its brands such as Tip-Top, Anchor and Mainland as well as high-tech ingredients and foreign investments.

Fonterra yesterday raised the forecast payout by 50c to $6.90 per kilogram of milksolids, compared to $4.46 last year. The increased payout will pump more than $3 billion into the economy.

The farmer co-operative said production was expected to grow by up to 2 per cent this season - which could result in a total payout of $8.8 billion, up from $5.6 billion last year.

Chairman Henry van der Heyden said the increased milk price component of the payout was due to a rise in supply, which had flowed through to higher sales volumes at higher prices, although gains had been somewhat offset by the strength of the New Zealand dollar.

"Compared to the [rise in the forecast from] $6.40 to the $6.90 there has been some negative impact but going forward we are pretty well covered for the season," van der Heyden said.

The forecast was based on the best available information "but in saying that we've still got six months to run for the season so it just depends on what happens around those key value drivers."

However, despite the rise in forecast payout, the value-add component remained at 20c, compared to 59c last year.

"This part of the business continues to be impacted negatively by reduced margins which are a direct result of the higher commodity prices," van der Heyden said.

"The negative impact is being balanced by improved performance from our overseas investments."

Westpac economist Doug Steel said the Reserve Bank would have been well aware of the rise in overseas spot prices.

"This is really just confirmation that Fonterra has locked in those gains at least partly, so it's really confirmation of what we already knew," Steel said.

The increased payout was unlikely alone on its own to spark a rate rise but when including taking into account other fiscal stimulus likely to come on board next year and the inflationary impact of the emissions trading scheme, there was still a strong possibility of an interest rate rise next year, Steel said.

"It's naive to say they're [farmers] not going to spend it, it's also naive to say that they're going to spend the lot," he said. "There's going to be some sort of balance."

Chief executive Andrew Ferrier said there were signs of a supply response to record commodity prices.

"In particular we're seeing growth in United States skim milk powder production," Ferrier said.

"We think this will factor into the market over the short to medium term and will bring a gradual softening.

"However, structurally the market is much stronger than it has traditionally been."

Global demand for grains was strong, with a large amount consumed in the biofuels sector.

"This is putting upward pressure on global farming costs, which in turn is pushing up global food prices," Ferrier said. "Combine this with the weak US dollar, and we believe the long-term outlook for dairy prices will be well above traditional averages."


* Record payout lifted 50c to $6.90/kg milksolids.
* $8.8 billion potential value of payout.
* $3.2 billion more into the economy than last season.
* Extra cash unlikely to spark an interest rate rise.

Co-operative's fair share price rockets

An NZX-listed Fonterra could have a market capitalisation of $8.9 billion based on yesterday's increase to its fair value share.

The board of the dairy giant set the interim fair value share price for 2008/09 at $7.01, compared to the current price of $6.79 a share.

The share is bought by farmers that supply Fonterra under the co-operative relationship on the basis of one share for each kilogram of milk solids.

Fonterra expected between 1.5 per cent and 2 per cent increase on last year's milk-solids collection - which could equate to a market capitalisation of $8.9 billion.

In November Fonterra's board revealed a preferred capital re-structure plan which, if approved by farmers, could see a new company created to hold all the assets and listed on the New Zealand Stock Exchange in 2010.

Chairman Henry van der Heyden said the board was constitutionally obliged to pick the mid-point of the valuation range by Duff & Phelps of $6.49 to $7.54 a share.

"The net increase in the fair value share reflects some compression of Fonterra Ingredients long-term margins, driven by the higher dairy prices," van der Heyden said.

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