Tatua calls for independent review of milk pricing

Milk processor Tatua Co-operative Dairy Company wants a full and independent review of the way milk pricing is set following concerns that inefficient supply and capital investments could be made under the current model.

In its submission to the Commerce Commission's government-ordered review of the Dairy Industry Restructuring Act (DIRA), the Waikato-based cooperative says it will expect any review to address issues it and other independent processors have identified. Tatua has concerns with the milk price model both in terms of how incentives to price high and low are balanced, and how revenue is accounted for.

"In particular, our analysis suggests the range of legitimate market activities employed by Fonterra, both inside and outside of GDT (GlobalDairyTrade), is resulting in revenue inputs that are not fully reflective of prevailing market pricing," Tatua says.

It also wants a new milk pricing panel established that operates with complete independence from Fonterra.

The 2012 DIRA Amendment set up a milk price panel to oversee the calculation of the milk price. It has to have a majority of members, including the chair, who are independent of Fonterra. 

The Commerce Commission oversees whether the milk price manual and the milk price are consistent with DIRA's competitive principles, reporting annually on both.

In its DIRA submission, Fonterra says given its conduct would be unlikely to change significantly in the absence of the milk price regime and there are costs arising from it that could be avoided, it could be argued the farmgate market would operate more efficiently without one.

However, the regime could be said to allow fair entry and exit of farmer suppliers by safeguarding the level at which the milk price is set, preventing Fonterra as the dominant player from paying farmers a higher price than its rivals in order to retain them.

"Certain stakeholders" want changes to the milk price regime and its methodology, but evidence suggests the farmgate milk price resulting from the regime "is robust and performing as the role intended," Fonterra says.

While it's not seeking any changes to the regime, Fonterra has asked to be freed from having to accept all milk from new suppliers and from having to make milk available to large processors, apart from Goodman Fielder.

Fonterra's share of the farmgate milk market is 85 percent nationally, but in the South Island has dropped by 10 percentage points to 78 percent, triggering the expiry of DIRA's pro-competition provisions by no later than May 2018.

Tatua says the requirement for Fonterra to supply milk under the raw milk regulations should be retained in full because the factory-gate milk market remains thin.

Instead of setting a single trigger point where Fonterra would no longer have to supply independent processors, a legislative process should be adopted that would trigger each time Fonterra's share of milk collection decreases by 10% or within five years.

"The moral dilemma associated with implementing predetermined changes in response to a threshold being met could be mitigated by changing that purpose to one of simply triggering a review where deregulation is not a presumed outcome," Tatua submitted.

Tatua says the entry/exit provisions allowing farmers to easily switch supply should be retained, and where necessary strengthened, to ensure milk purchasing schemes or similar vehicles can't be used to circumvent the legislation's competitive intent.

In its submission, Rakaia-based milk processor Synlait Milk says it has concerns Fonterra's support programme for farmer shareholders, which allows them to borrow up to 50 cents per kilogram of milk solids on an interest free loan for up to two years, could interfere with the fair entry and exit provisions.

Synlait said full details on the bailout loan have not been made publicly available and, by the time they are, farmers will already be locked into supplying Fonterra for a period longer than allowed under DIRA.

Tatua also says the local dairy industry is anticipating milk production growth will slow considerably by 2020, and then only increase modestly in the subsequent decade. Some forecasts suggest growth may fall to less than 1.5% a year, mainly due to environmental concerns over farm intensification and adverse economic conditions.

Dairy product prices rose for the first time in nearly six months in the latest GDT auction overnight after Fonterra significantly dropped the volume of whole milk powder on offer. AgriHQ dairy analyst Susan Kilsby said Fonterra's milk price forecast for the current season of $3.85/kgMS, the lowest since 2002, is now looking achievable.

Tatua says the DIRA review must consider the future competitive state of the local dairy industry, which will be quite different from the past 15 years, where all parties have benefited from an expanding industry and new milk supply.

Analysis from 2009 to 2015 shows Fonterra has not only retained its historical milk collection volumes, but also claimed more than two-thirds of all new milk growth, with independents gaining only a third.

(BusinessDesk)