Rural delivery: Jury still out on mega-merger

By ALAN J. ROBB

Fonterra's first annual report was always going to create interest.

The advocates of the mega-merger could be expected to trumpet its success; the sceptics to point to it falling short of its promised benefits.

These comments are offered by one who has no axe to grind. Maybe they will provide some focus for discussion.

The task of bringing together the operations of Kiwi, New Zealand Dairy Group and the Dairy Board will not have been simple or straightforward. Management and the directors deserve congratulations for that.

Setting up the Shareholders Council has been an innovative and necessary step. The process of helping the councillors to become an effective link with members of the co-operative is vital.

Again, management, the board and the councillors deserve congratulations for that. I know from firsthand experience that the councillors are given good access to training sessions to help them to develop the skills needed to understand the operations of what is a major player in New Zealand's commercial world.

Councillors will undoubtedly be asking why the payout was kept at $5.30 a kg of milk solids for last year despite declining commodity prices.

I suspect that it was partly driven by a desire to demonstrate the success of the mega-merger.

To an outsider it appears imprudent to make a distribution that results in a net loss in the first year of operations. It is also difficult to see any commercial justification for making a payout which caused the net operating cash flow for the second half-year to be negative to the tune of $501 million.

When the preliminary result was announced on July 19, the company was still talking about a payout in 2003 of $4 a kg milksolids. But within about 48 hours it was announced that it would be $3.70.

Suppliers have reason to question when the decision on the $3.70 figure was made and why it could not have been announced earlier.

The information released at the media briefing on July 19 was considerably less detailed than that included in the Stock Exchange filing later the same morning.

The press briefing did not mention cashflows. It should have. Does Fonterra's management not know that the evaluation of performance requires reports of both profits and cashflows?

To me, it looks as if management was carefully controlling the release of bad news. I wonder if there are other aspects of the 2002 operations that will take the gloss off the results?

We will only know this when the full financial statements are released in a few weeks.

The reduced payout will undoubtedly generate some anger with farmers who have recently been involved in dairy conversions, especially in the Southland area, and whose budgets have been based on payout ratios of more than $3.70 a kg. They are likely to see herd and land values weaken.

Suppliers will also be concerned if Fonterra's rivals, or supermarkets themselves, start importing milk from Australia where the retail price is about half the New Zealand figure.

We already import Australian tomatoes, soft drinks, wine and many food lines, so why not milk?

Some suppliers may look at joining Fonterra's competitors, starting a new co-operative or even quitting the industry.

On Fonterra's first year judgment is reserved.

Fonterra's second year is probably likely to be a better indicator of whether the mega-merger is paying off.

* Alan Robb is a senior lecturer in accountancy at Canterbury University. His research on co-operatives has been published internationally. This year he will address the Australian Co-operative Directors' Conference on "Evaluating the financial performance of co-operatives".