Fonterra Cooperative Group could let farmer shareholders sell "wet shares" - the shares held based on annual milk production - as a way of providing support to its cash-strapped milk suppliers, says broker First NZ Capital.
The cooperative's latest support measure has been to bring forward payment of its forecast 20 cents per share final dividend earlier than usual to get the money into farmers' hands as quickly as possible given the low forecast milk payout. Last year 76 percent of farmers took up an interest-free loan which cost the company $390 million.
First NZ Capital said in a research note today that the flexibility provided by the Fonterra Shareholders' Fund (FSF) could also be used and would take the onus off Fonterra having to get cash to debt-laden farmers at a time when the business needs funds for its value-add growth strategy.
FSF listed on the NZX in 2012 after Trading Among Farmers (TAF) changed the way farmers bought and sold the cooperative's shares.
The analysts say it would be possible to get between $300 million and $400 million of capital to farmers that need it from outside investors without much real change being required in the way the actual fund size target is managed.
TAF gave farmers more options including being able to hold on to shares up to three years after selling a farm, buying additional shares over the amount of milk they produce, and being able to convert shares to tradeable units.
Farmers are required to hold one wet share for each kilogram of milk solids they supply annually while dry shares are any they hold over and above that share standard requirement. Farmers can trade dry shares on a farmers-only market and on the FSF which is open to all.
Fonterra units are created when farmers convert some of their dry shares and they can also convert wet shares into vouchers while still holding onto the voting rights and obligation to supply milk.
The FSF fund size of 104 million units represents 6.5 per cent of the cooperative's issued capital held by investors who have an economic interest without voting rights. That's well within the target range under the Fund Size Risk Management policy of 7 to 12 per cent.
However, the potential fund size, which estimates what it could reach if all the 125 million available dry shares were sold to non-farmers, is currently 14.3 per cent - at the upper level of the 7 to 15 per cent target range, and likely to rise further as milk production falls.
While we're presenting a case where it might suit FSF and its farmers to facilitate an exchange of wet shares for vouchers, the Fund Risk Management Policy as it currently stands is an issue that would impact Fonterra's ability to raise external equity, which is not ideal either.
Federated Farmers dairy chairman Andrew Hoggard said given how low the fund actually is as a percentage of total capital, selling wet shares was "an option worth debating".
He said TAF hadn't worked as well as he had thought it would when first mooted with more restriction on the free trading of wet shares than he anticipated.
First NZ said the structure was set up to give farmers a chance to sell wet shares but it's at the discretion of the cooperative's board. This has only been done once in a farmer-only buyback following FSF's IPO in 2012. In return for the sale of the wet shares, farmers received 53 million vouchers held to meet the share standard requirement.
First NZ said it was time for the Fund Risk Size Management Policy to be reconsidered as the current limits stymy allowing farmers to sell wet shares and the dry share proportion is already above target range.
"While we're presenting a case where it might suit FSF and its farmers to facilitate an exchange of wet shares for vouchers, the Fund Risk Management Policy as it currently stands is an issue that would impact Fonterra's ability to raise external equity, which is not ideal either," the analysts said.
They suggested two ways to allow farmers to sell wet shares to outside investors; one through a dual bookbuild where investors bid for the shares farmers offer within a set price range or simply opening a window during which farmers could sell them though this is difficult with the existing fund size policy.
The units were recently down 0.2 per cent to $5.90 and have decreased 1.3 per cent so far this year.