Dairy fund looking to swap cash for cream

Geoff Taylor

As a former New Zealand junior swimming and rowing rep, Geoff Taylor is used to making waves in pursuit of excellence.

His youthful competitive success in and on the water was a forerunner to a stellar rise in the business world to top treasury roles at dairy giant Fonterra.

Then, several years ago, the now 42-year-old teamed up with former Debt Management Office treasurer Pat Duignan and ex-Treasury and Prime Minister's Department official Phil Barry to form financial and economics consultancy Taylor Duignan Barry (TDB).

The trio's blue chip and eclectic list of recent clients - including the Commerce Commission, Fonterra, the Business Roundtable, Auckland City and Ngai Tahu - clearly marks them out as fast-lane swimmers in New Zealand's economic pool.

Now, Taylor's Dairy Investment Fund - quite separate from TDB - is out to make a major splash of its own in the dairy sector.

Besides Taylor, fund shareholders include National's finance spokesman, John Key - an old friend of Taylor's with whom he owns a South Island dairy farm - and Perry family interests from the Waikato. The fund holds just over 9.5 per cent of Fonterra rival Open Country Cheese.

Taylor says his sporting background helped to prepare him for the demanding world of high finance.

"You've got to punch above your weight early" in sport, he says, and "most of my early professional work was being thrown in at the deep end".

His first postgraduate role was in London as a foreign exchange adviser during the "big bang" of the late 1980s when financial markets were "growing like Topsy with relatively unskilled labour" in a fairly unstructured environment.

That environment wasn't a place for the fainthearted, and the experience taught him the value of self-confidence. "You never knew what was around the corner."

The hurly-burly world of the Dairy Board in the 1990s - when he was involved in treasury roles - also gave him a big buzz.

With milk production surging, the board was forced to "grow, grow, grow at all costs" and it was "wonderful" to be involved in the cash-flow end of the business.

"You got to see and do things that were coming at you 100 miles an hour and you had to respond to.

"There was getting cash out of Russia in suitcases; there was a Southeast Asian crisis and meltdown. It was the real live world of cash and risk management that New Zealand doesn't really see because the operating environment here is so good, so stable."

What he saw and did at the board and Fonterra has given him an intimate knowledge of the dairy sector.

Fonterra gives farmers a payout each season based on their milk production - this season it is projected to be $4.07/kg of milksolids.

Taylor's new fund is offering farmers cash-for-difference deals allowing them to lock in a milk return for the season.

While he says they're proving popular with larger farmers, he won't reveal the scale of the deals done. But he says it is at the maximum the fund is comfortable with in terms of risk exposure.

He believes there is more demand for these deals than the fund can provide and that banks, with their regular dealings with farmers, will ultimately be better placed to provide them. "We don't want to maintain that sort of distribution and credit capacity."

With Fonterra suppliers obliged to buy shares in the company in proportion to their milk supply, the fund is now gearing up to offer contracts enabling farmers to get the cash value of their Fonterra shares immediately. In return, they will give the fund the full value of the shares, including capital gains, when they are sold.

This gives the fund exposure to Fonterra without breaching the rule that only suppliers can hold shares, and farmers will still exercise freely the shares' voting rights.

The fund is seeking to be able to pay for a minimum $20 million of shares before it commits itself to contracts. But Taylor has a longer-term goal of the fund having access to the capital gains on about 10 per cent of Fonterra's shares. A 10 per cent stake would be worth more than $800 million based on his estimate of Fonterra's share price next season.

Why the hunger for so much exposure to dairying?

Taylor, a Fonterra shareholder himself through his farm, describes the sector as simply a very well-established, extremely low-risk business.

But he also says Fonterra is at the point where its exposure to risk is so low that it has to start looking at assuming more risk and "backing some winners".

He says the growth potential is "offshore more generally" with no stand-out "magic" opportunities.

"The business model needs to change such that there is a particular area in the world, a particular product strategy, a particular strand of innovation that is large enough for it to have a material effect.

"For there to be more value added, I think Fonterra, on all our behalfs, needs to find some riskier products, some riskier markets, and reap return."

Taylor expects Fonterra's share price to be set at around $7 midyear and believes such a level means it would be fully priced under the current business model.

"For them to get appreciably higher, Fonterra is going to have to adjust strategy, come up with some other value that we can't currently see."

An external valuer has effectively assessed a fair rate of return on Fonterra shareholders' capital as 8.5 per cent a year, Taylor says, and while this is quite attractive in itself the fund thinks it is too low.

"We would prefer it higher, and the only way that Fonterra are going to get higher than that in the longer term is taking more risks on behalf of shareholders."

He acknowledges extra risk for capital gain may not sit that well with farmers but insists they mostly care about their return on milk, which makes up the bulk of their income.

Noting Fonterra's overwhelming dominance of dairy exports, Taylor wants more competition for capital able to be employed in non-commodity dairy products.

"I do, as a Fonterra shareholder, think Fonterra will perform progressively better by having competing pots of capital in ... marketing and distribution of New Zealand dairy products."

Breaking down external perceptions of Fonterra getting preferential treatment from the Government over export sales will also be advantageous in our free trade negotiations, he says.

Another goal of Taylor's is making Fonterra itself more transparent.

"It's a mystery, muddy thing that operates like a private company... where that company provides next to no information to its shareholders."


Geoff Taylor

Age: 42.
Lives: Wellington.
Tertiary education: Bachelor of Management Studies, Waikato University - major in finance/accounting and marketing. International tax, accounting and audit papers at Victoria University.
Career:
1986-1988: Foreign exchange corporate adviser at First Chicago in London.
1988-1993: Dairy Board treasury manager.
1993-1996: Bank of New Zealand national treasury manager - sales and service.
1996-1998: Dairy Board group treasurer.
1998-2002: Dairy Board/Fonterra general manager corporate finance and treasury.
2002-present: Director Taylor Duignan Barry Ltd.

Other directorships: Dairy Investment Fund, Open Country Cheese, Haunui Dairy, GT and Company, Sisam and Sons.
Interests: Skiing and multisports such as coast-to-coast. Former NZ rowing and swimming age group rep.