Timely profit boost for Fonterra

Farmers in the previous financial year enjoyed an $8.50 per kg payout, but the flipside was that high milk prices drove Fonterra's earnings sharply lower. Photo / Christine Cornege

Dairy co-operative expected to report rebound amid challenging times for sector.

Fonterra looks set for a big rebound in its annual net profit when it reports its result tomorrow, but the dairy co-operative will face challenges as the sector worldwide tries to adapt to low demand and overproduction.

Farmers in the previous financial year enjoyed an $8.50 per kg payout, but the flipside was that high milk prices drove Fonterra's earnings sharply lower.

The first half was hit by inventory problems arising from the sudden collapse of dairy prices, with its net profit falling by 16 per cent to $183 million. Those problems probably continued in the second half, but to a lesser extent, analysts said.

Forsyth Barr analyst James Bascand expects an underlying net profit of $502 million, compared with $157 million in the previous year, but for the number to be short of earlier years. The market consensus is for normalised net profit of $470 million.

"It will be a big improvement but it won't be anywhere near its earnings potential compared with what they have had historically," Bascand said. "The first half of the year was very weak, with the company having to sell higher-cost inventory into a lower-pricing environment, so there was a very high cost of goods sold given the high milk price that they were paying.

"That dynamic will partially [flow] through into the second half but expect that the second half will be a lot stronger than the first."

Bascand expects Fonterra's debt equity ratio to remain high at around 51 per cent, approaching levels not seen since 2008, when the impact of the global financial crisis put its balance sheet under pressure.

Developments with Fonterra's balance sheet will be keenly watched, particularly after Standard & Poor's in August put Fonterra's "A" long-term and "A-1" short-term credit ratings on CreditWatch with negative implications.

Fonterra has forecast a dividend in a 20 to 30c range and ANZ rural economist Con Williams said the payment would be important for farmer sentiment as they contend with low farmgate milk prices.

"We expect given the restructuring being undertaken and stress on farmer cashflow at present Fonterra will be looking to pay out toward the top of their normal range 65 to 75 per cent of its net profit after tax," Williams said.

Market expectations are for more disclosure on the performance of individual business units. Williams said the consumer and foodservice businesses would have been keenly watched and the market would look for signs of progress with its problematic Australian business. The ingredients business - which accounts for nearly half of the company's earnings before interest and tax - would also be key, he said.

Analysts expect the company to confirm its $4.40 per kg milk price for the year.