COMMENT:

Anyone else get a sinking feeling when new Fonterra chairman John Monaghan gave his idea of the biggest challenge facing the embattled dairy company?

A few days into the job, Monaghan told a rural publication in an interview reported more widely that challenge was to change the law which forces Fonterra to accept milk from any farmer and sell it to rivals at a subsidised price.

Meanwhile back in real life land, Fonterra had a crisis of confidence among its 10,000 farmer-owners due to its financial and investment decisions, its balance sheet wasn't pretty reading, and our so-called "national champion" was being scorned by the public and the Beehive.

Advertisement

With the chief executive as well as the former chairman gone, Monaghan, rather than jump into the leadership void and address these inconvenient truths head-on, pitched a tired old complaint that's worked for Fonterra's spin machine before, firing up righteous indignation among farmers when it's needed a distraction tactic.

It's also been a handy one for implying if only Fonterra didn't have this pesky bit of the legislation holding it back it'd perform better.

But challenged by the Herald to produce evidence of the hardship created by its statutory milk obligations, New Zealand's biggest company cried commercial confidentiality.

Asked how much marginal or non-cost effective milk it's had to accept in the past two years, it said: "We can't provide this info as it is commercially sensitive, but it is worth noting that the cost of marginal milk is only a small part of the costs of open entry for us".

(Open entry is the name of Dairy Industry Restructuring Act (DIRA) regulation that Fonterra wants jettisoned. DIRA enabled the creation of Fonterra from an industry mega-merger in 2001 against the recommendation of the Commerce Commission.)

So what are these other costs?

That's confidential, said Fonterra.

"But (they) also include the opportunity costs associated with having to invest in and/or commit capacity for milk, regardless of whether or not the farmer decides to supply it to us, and at time having to process milk into products irrespective of the market value for those products - ie. we may have to make lower returning products than we would prefer to be making", it said.

There were also potential costs for Fonterra, the dairy industry and the economy of surplus manufacturing capacity created by the loss of milk to inefficient investment in the industry "which is incentivised and supported by Fonterra's open entry obligation".

We can take this as an oblique reference to the risk Fonterra, which for 17 years has had more than 80 per cent of the raw milk market to itself, now faces of having stranded stainless steel assets with New Zealand annual milk growth having peaked and smaller competitors on the rise.

Next question was how much milk has it had to supply to rivals at a "subsidised" (the correct word in the DIRA context is actually "regulated") price in the past two years?

DIRA milk was about 2 per cent of Fonterra's 22.9 billion liquid milk equivalents (LMEs) in 2017 and 2 per cent of 23.7b LMEs in 2016. (LME is a standard measure of the milk quantity used to manufacture dairy product such as powders and cheese.)

Just to be absolutely clear - DIRA doesn't require Fonterra to accept milk from any old farmer. To supply, a farmer has to buy shares in the big cooperative. It can reject an application to buy shares if the farmer plans to supply under 10,000kg milksolids in a season, and if the cost of transporting the milk from a farm exceeds the highest cost of transporting another existing shareholder's milk.

Fonterra likes to say it can't refuse a farmer joining up even if it has concerns about animal welfare or environmental issues.

But according to the Ministry for Primary Industries, the company isn't exactly powerless here.

Farmer-shareholders who don't comply with its terms of supply can be financially penalised, required to work with a consultant or have their milk collection suspended.

However Fonterra can't decline an application to supply because the farmer has a poor track record.

Also deserving of clarification is Fonterra's gripe it has to supply rival companies at an implied cheap price.

Fonterra last year collected 82 per cent or 17 billion litres of New Zealand raw milk. Photo / Michael Cunningham
Fonterra last year collected 82 per cent or 17 billion litres of New Zealand raw milk. Photo / Michael Cunningham

It is not required to supply raw milk to another company which in each of three consecutive seasons had its own supply of 30 million litres or more. The exception is food company Goodman Fielder, Fonterra's main rival at the supermarket chiller, which is able to buy up to 250m litres of milk a year at a regulated price. Fonterra's other competitors of any size have their own farmer-suppliers by now.

Fonterra last year collected 82 per cent or 17 billion litres of New Zealand raw milk.

Monaghan's idea of his company's biggest challenge is also well off-side with his shareholders. Several told the Herald his priority should be restoring their confidence in the board and senior management.

Sign up to the NZ Herald Business page on Facebook for latest news, commentary, data and analysis