Fonterra chairman John Monaghan sought to cheer up the co-op’s farmer-shareholders by telling them at what was reported to be a “packed” annual meeting that “For a time this year, NZ farmers were paid this highest milk prices in the world.”
He insisted there has been a structural change in the co-op’s milk prices since Fonterra was formed.
“We’ve gone from being paid about half as much as our global peers to the point now where we are consistently paid the same or thereabouts.It sounds arrogant to say it, but the fact is that simply never would have happened without a strong Fonterra”.
Whether he succeeded in raising the spirits of Fonterra’s suppliers is not clear. For, in what was a masterly understatement, he had to confess the performance in the past year of the dairy giant had been “disappointing“.
After delivering a $196m loss for the year ended July compared with the previous year’s profit of $734m, largely due to writedowns of $439m in its investment in Chinese dairy company Beingmate and a $232m payout to French food company Danone after the botulism contamination scare, the co-op is now seeking to protect its balance sheet by reducing its debt level by about $800m.
In the process it may have to flog off some assets, though Monaghan argues it won’t be a “fire sale”.
(At that point, some of the farmers present might have whispered to themselves: “God help us”)
Fonterra, after all, is supposed to be the “national champion” but the unpalatable fact is that shares in Fonterra are worth only 28% more than in 2001—against the 400% increase in the NZX50 index (and its predecessor). Over the past 10 years , while production on the average farm has increased 40%, term borrowings have nearly doubled. Annual return on assets has averaged 5.7%.
The painful lesson, yet to be fully absorbed by either Fonterra’s governance, or its suppliers, is that the business has to be driven by profitability, not volume.
Fonterra’s interim CEO Miles Hurrell had the task of explaining that in seeking to cut the co-op’s debt level the aim is to improve earnings so the debt-to-earnings ratio returns to the target range.
“We are reviewing all discretionary incentives in the pipeline and challenging all spending to help us achieve this.“
Fonterra has set its capital expenditure at $650m – a reduction of $221m
It is working to reduce its operational expenses to the levels of the 2017 financial year.
Hurrell said that operational expenditure had risen by 7% – or $161m – in the last financial year. The increase was planned but it had expected its earnings to be higher – “and this didn’t happen”.
“Balancing our expenditure and earnings is a key focus for us going forward.”
Monaghan identified three assets that it may exit as part of its review of its operations, as these are no longer considered core to its strategy.
One of these investments is in Chinese dairy company Beingmate. But he did not identify the other two.
“At this stage nothing is off the table and if we choose to divest the ownership of an asset it could be in full or in part,” he told the meeting.
“The board’s intention is to make a decision on each of these investments and complete the transaction within this financial year.”
Monaghan said the second phase of the Fonterra review is to take stock of all assets, investments and partnerships.
“We are taking a clinical look across our business.There’s no room for being sentimental.This may mean exiting certain investments that are no longer core to our strategy, reallocating capital to new or existing ventures, or simply reducing debt. We have some tough decisions to make.“
Good luck with that, say the rest of us.