Australian dairy – “let the big milk battle begin”

The storm clouds hanging over the global dairy market are expected to clear in late-2018, while competition for milk is set to intensify in Australia as the “battle begins”, steering domestic producers towards a profitable 2018/19 season, according to a just-released report.

Australian Dairy – Let the big milk battle begin, by agribusiness banking specialist Rabobank, says the “battle between two global dairy giants looms large on the horizon”, as Saputo’s quest to win back milk supply begins and Fonterra maps out further capacity expansions. While smaller and newer dairy players are set to continue actively recruiting milk to secure their share of the milk pool.

Report author, Rabobank senior dairy analyst Michael Harvey says it will be these competitive pressures for milk supply, which are likely to intensify next season with Saputo’s acquisition of Murray Goulburn, that will translate into higher premiums being passed to farmers and help compensate for the lower commodity price.

“In the global market, while risks loom in the near-term and this is likely to see dairy companies take a conservative approach when opening their prices for the 2018/19 season, the prospects for a gradual tightening in global dairy markets is bright,” he says, “with the timing of the recovery expected to favour Australia by taking place through our seasonal peak in production.”

Mr Harvey says – based on Rabobank’s latest global commodity price forecast (outlined in its recently-released Global Dairy Quarterly) and assuming a spot currency rate of USD0.77 – the bank forecasts the global market to deliver a base farmgate milk price of AUD5.40/kgMS in 2018/19 – down slightly from AUD5.60/kgMS.

“However greater competition for milk is likely to bring higher value-add payments to Australian producers – and above those evident this season – with Rabobank forecasting an annual average farmgate range across southern Australia of AUD5.40kgMS to AUD5.90/kgMS in 2018/19,” he says.

“While the southern Australian export industry often beats the commodity market, it is not always the case. But looking to the past 10 years, the average premium between the base commodity milk price and average Victorian farmgate prices has been around AUD0.40kg/MS.”

Looking for momentum in milk growth

The Rabobank report says the Australian dairy sector made positive strides during the 2017/18 season, but a multi-stage recovery is required for a true resurgence.

“Looking to 2018/19, while the industry has a structurally lower dairy herd, there are enough of the key ingredients in place to support milk production growth for a second consecutive season,” Mr Harvey says.

Rabobank is forecasting domestic milk production to increase by 2.7 per cent in 2018/19 to deliver an additional 170 million litres of milk to the market. This follows the 3.2 per cent increase (or additional 390 million litres) in 2017/18.

“A well-timed autumn break will be vital to setting up the season,” he says, “with increased purchased feed costs and lower cull cow prices expected to place some pressure on margins.”

For Australian dairy farmers preparing for the new season, Mr Harvey says, there will be a need to budget for these higher feed costs, but also factor in the cash flow implications of a conservative opening price and lower non-milk income.

“The reality is that 2018/19 may be characterised as another season of consolidation due to looming market pressure, however margins are on track to remain above breakeven,” he says.

Big battle for milk looms

Given the increase in Australian milk supply and the gradual repositioning of the milk pool, the report says a “big battle for milk looms” between processors, to retain producers next season and to be in a position to grow their milk supply in the longer term.

“At the frontline of this battle are the two large international companies butting heads over milk supply,” Mr Harvey says, “as Saputo looks to win back milk supply and Fonterra maps out capacity expansions.

“The Saputo acquisition of Murray Goulburn, pending approval by the Foreign Investment Review Board, is set to fundamentally transform the ownership of the milk supply chain.”

With the Murray Goulburn asset footprint having an excess capacity of more than one billion litres, Mr Harvey says, Saputo will be looking to win back that lost milk supply.

“And then you have a number of dairy companies that have already taken up the lost milk from Murray Goulburn and they will be determined to retain their recently-acquired milk suppliers,” he says.

Mr Harvey says over the next two years, Australia’s dairy processing capacity is likely to increase further, with an estimated 900 million litres of capacity to be built over that time.

“This comes off the back of one billion litres of commercially-viable processing capacity coming on board in the past two seasons.”

In light of the increased processing capacity, Mr Harvey says, Australia’s dairy sector needs to ensure sustained milk supply growth continues.

“Without a growing milk pool, the industry risks carrying too much surplus processing capacity, fuelling manufacturing inefficiencies,” he says, “with the margin pressure just ‘pin balling’ from one processor to the next.

“And this is a looming risk for the sector because if it faces another sustained period of aggressive milk pricing, it could potentially transform into an unsustainable squeeze on processors margins and profitability.”

Mr Harvey says there is no doubt that trust between farmers and dairy processors has been damaged and a rebuild remains a ‘work in progress’. “Where there is a lack of trust, there will likely be a lack of loyalty and the threat of milk supply losses through supplier churn each season,” he says.

“So it is in everyone’s interests for the Australian supply chain to have a globally competitive cost base.

“It will be fascinating to see who emerges as the new price leader, but there is no doubt an improved mechanism for price discovery is needed to ensure sustainable returns throughout the sector. And this is likely to give processors renewed impetus to offer innovative tools, services and support to milk suppliers to facilitate future milk supply growth.”

Rabobank Australia & New Zealand Group is a part of the global Rabobank Group, the world’s leading banking and finance solutions to businesses involved in all aspects of food and agribusiness. Rabobank is structured as a cooperative and operates in 40 countries, servicing the needs of approximately 8.6 million clients worldwide through a network of more than 1000 offices and branches. Rabobank Australia & New Zealand Group is one of Australasia’s leading agricultural lenders and a significant provider of business and corporate banking and financial services to the region’s food and agribusiness sector. The bank has 94 branches throughout Australia and New Zealand.

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Skye Ward
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