Fran O'Sullivan on business

Business analysis and comment from Herald columnist Fran O'Sullivan

Fran O'Sullivan: TAF tiff raises valuable questions

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Fonterra chief executive Theo Spierings has described comments by Federated Farmers as disappointing and inaccurate. Photo / Dean Purcell
Fonterra chief executive Theo Spierings has described comments by Federated Farmers as disappointing and inaccurate. Photo / Dean Purcell

Fonterra chief executive Theo Spierings delivered the corporate equivalent of a "bitch-slap" to Federated Farmers' Willy Leferink which has not only resounded in farming circles but been heard all the way to the Beehive.

In a hard-hitting public statement released on Sunday, Spierings described media comments by the Feds as "disappointing", "inaccurate" and "puzzling".

But does Leferink really deserve the right kicking around the cow paddock that Spierings is delivering?

The Federated Farmers' dairy section boss could have structured his criticism better (in particular, come up with better options about what he is proposing).

But there is no reason why the Fonterra board can't get its new "trading among farmers" proposal up and running but still involve the private sector in some listed spinoffs.

The obviously angered Fonterra boss is perturbed at Leferink's suggestion that the co-operative should spin off its overseas farming interests into a listed company to raise capital.

Leferink, who heads Federated Farmers' dairy section, is concerned the company's brand could be tarnished if it is hit by another overseas scandal like the melamine contamination which led to the loss of Fonterra's investment in San Lu.

What has ignited opinion is the way Spierings accused the farming lobby group (in reality, Leferink) of repeatedly making ill-informed statements about its proposed "trading among farmers" scheme.

With Fonterra's farmer shareholders due to deliver their final vote on the TAF (as the scheme is commonly known) on June 25, the timing of Leferink's intervention is certainly not helpful for Fonterra's board and management, which is clearly itching to get the proposal voted into place so it can deliver on its expansion plans.

On the face of it, there is nothing wrong with the underlying philosophy of what Leferink is proposing.

Many Fonterra players over the years have thought that bringing in outside capital is best done through staging an IPO to form, for instance, a brands company.

Under this option, the co-op would retain the majority share in the listed company, but be able to access sufficient extra capital to develop strong brands to launch on the international markets.

Fonterra's farmer shareholders would get a return via the dividend flow back to the parent company.

And, importantly, there would be additional private shareholder pressure on Fonterra to deliver - not just in the commodities and ingredient space - but on high-value branded products.

Fonterra does not like to be reminded but when Parliament voted for it to become a virtual monopoly there were strong hopes a "Nestle of the South Pacific" would ultimately emerge.

Fonterra has done very well indeed through morphing into an ingredients player supplying the big brands of the foods business.

But surely it's time to build a strong brands company as well?

Frankly, such a vehicle would also be more attractive to private sector institutional investors, some of whom will:

* Doubt that the TAF fund will be sufficiently liquid to justify buying units in significant volumes.

* Doubt (just like farmers) the transparency of a trading platform where the interests of farmers and investors are not totally aligned.

* Prefer to invest in a vehicle which has a clear and offensive growth strategy (ie, to brand equity) rather than a vehicle that is now being promoted as a purely defensive mechanism to lock up Fonterra's financial backdoor by getting rid of share redemptions and locking in permanent capital.

Unfortunately, Leferink did not frame his alternative in such a fashion.

The debate was further complicated when a federation spokesman was reported as saying that spinning off the overseas farms could be an alternative to Fonterra's proposal to let farmers trade shares with one another.

This is daft.

Spinning off the farms will not alleviate Fonterra's redemption risk.

And without that occurring there would not be sufficient capital to fund Fonterra's overseas expansion as the company would not be able to leverage its balance sheet to maximum advantage to fund projected growth.

But - without intending to - Leferink has ignited a valuable debate.

Surely it's not impossible for Fonterra to lock up its backdoor via the TAF, but also spin off listed vehicles that will provide sufficient private equity to expand overseas?

Many of Fonterra's farmer shareholders get hysterical when private shareholding is mentioned.

But in 2007 Fonterra did go down this route, arguing new capital from external private shareholders would enable it to pursue growth opportunities. The farmers said no.

Huge Chinese consumption of New Zealand's "safe" dairy exports subsequently masked the fact that Fonterra's growth trajectory has not really delivered.

Without the unexpected upside from the San Lu affair what would the company's results have really looked like?

To get the TAF over the line, Spierings and his boss, Fonterra chairman Sir Henry van der Heyden, are back banging on the defensive drum.

But it is time to make it abundantly clear that Fonterra cannot really deliver on its so-called strategy refresh without outside capital.

Far better to confront this head-on - and let New Zealanders also buy shares in listed vehicle spinoffs - than plough the defensive mode.

Right now the company (and its farmer shareholders) suffer because it is a price taker on international commodity markets without the major income stream provided by major brand investments.

That's the real reason why yesterday's announcement that the projected milk payout has again been lowered hurts.

- NZ Herald

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