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Potter's View: "Perhaps if such a mechanism were in place today, and with B milk paid at 17ppl and dropping, there would be much less milk around"

Insights
The Muller deal to acquire Dairy Crest’s liquid and butter business is certainly a good news story for the industry, as consolidation in the liquid sector particularly was much needed.
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Ian Potter

This month, Ian Potter predicts further processor consolidation around the corner and fears for the prospects next spring when there will be no production constraints unless we venture into some form of A/B milk payments.

Theo Muller has certainly made a big impact in British dairy processing in the past three years with the purchase of Robert Wiseman Dairies in 2012 (for £280m), the building of a new butter plant in 2013 (£17m), the purchase of the Nom and Minsterley factories in 2013, and now the new Dairy Crest liquid and butter operation (£80m) – subject to regulatory approval, of course.

 

Muller’s total GB spend in three years is around £600m. But I doubt he will stop there and the question must be where will his next shopping trip take him? Will he bid for Dairy Crest’s profitable cheese business, or will a takeover bid come from another processor, probably Lactalis? There is a lot to play for and it’s game on in GB for processor consolidation.

 

The Irish Dairy Board and its cheese processing arm Adams Foods in Leek are only a few miles from our offices and are a popular destination for late night farmer visitors, shall I say, when cheese prices head south. Adams packs 90,000 tonnes of cheddar a year there, split roughly into 40,000 of Irish and 50,000 of British, primarily from Parkham Farms, South Caernarfon and First Milk.

 

The popular opinion, though, is that cheap Irish cheese floods into our market to undermine it, so I decided to check out just how much extra cheese the Emerald Isle has landed on our shores this year.

 

UK cheddar imports totalled 105,000t during 12 months ending August 2014, down 38,000t (26.5%) on the tonnage imported a year earlier. To my surprise, Irish cheddar imports to the end of August were down 5420t (6.2%), with imports from New Zealand and the USA up markedly instead. So the Irish are not flooding our market. With UK cheddar production up a staggering 22,000t in the first nine months of 2014, this is a self-inflicted problem and not an imported one. On the flip side of the cheese balance sheet, UK cheddar exports are up 2.5% year on year.

 

Mature cheese made six to nine months ago was made with milk at 30ppl plus, and now it is coming out of store on a much weakened market. The result is some of our cheese processors are having to sell cheese at significantly below the cost of production. If retailers and others expect the cheese at prices based on today’s milk price, they will only drive down farmgate milk prices further. And retailers will not want to have their name associated with taking money off farmers.

 

Interest in, and talk of, processors gathering pace. The idea is based on having A quota milk which will be paid at a contracted price on (say) +/- 4% of an agreed production level, while above that there will be the B milk price which will be paid at a realisation price with the aim being to not dilute the average total milk price. The other big advantage of this scheme is it helps farmers to focus on what return they can achieve from any extra milk production. Perhaps if such a mechanism were in place today, and with B milk paid at 17ppl and dropping, there would be much less milk around.

 

It’s likely two-tier pricing will initially suit liquid processors, especially those in the fiercely competitive middle ground, with A milk contracted at a liquid price and B milk paid at a manufacturing price. The European Milk Board continues to call for a supply management mechanism post-April 1 (less than four months away now), with the aim of controlling milk production to ensure the avoidance of a complete milk price collapse and crisis. An A and B system could tick their boxes.

 

The idea EU milk production will level or even fall in 2015 seems farcical given that from April 1 there will be no super levy penalty.

 

Some member states will have to apply the brakes to reduce their super levy bill this quota year, but the brakes will be off in April.

 

As I close for 2014, I apologise for the fact I can only see a small glimmer of light on milk prices at the end of a very long tunnel. The medium and long-term prospects for growth in world dairy demand, driven primarily by population increases, are excellent. But the prospect for the 2015 farmgate milk price looks grim, especially come the spring flush. We need to manage supply better and accelerate demand for British dairy products.

 

We simply don’t have profitable markets for the extra 1.5 billion litres plus of milk we are producing and, even worse, I question whether we have the peak processing capacity to handle it all come next spring. Then there will be distress milk with no home. This could easily last for most, if not all, of 2015.

 

I recently received a copy of the International Farm Comparison Network (IFCN) 2014 dairy report. IFCN pulls together information and data from more than 100 countries, which represent 98% of the world’s total milk production. It’s a staggering figure that one in seven people in the world live on a dairy farm, compared to seven billion consumers and one billion people on dairy farms. The report includes cost of production comparisons from 54 countries which represent 91% of the world’s milk production.

 

Torsten Hemme, managing director of IFCN, refers to the abolition of quotas in the EU and comments that there will be very fast structural change to larger farms, with lower costs. Whether it’s the removal of quotas here or the collapse of the milk price that does the restructuring, it’s a near certainty there are going to be numerous casualties and tears in 2015 – both at farm and processor level.

 

Then the volatility wheel will turn again. Let’s hope it doesn’t take too long!

Ian Potter

 

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