23 May 2018

Fonterra increases forecast payout

2:38 pm on 23 May 2018

Fonterra has increased its forecast payout to farmers due to stronger demand from China, but higher milk prices are set to dampen returns to investors.

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Photo: 123RF

The dairy processor and exporter raised the milk price by 20 cents to $6.75 a kilo of milk solids for the current season, and forecast an even higher payout for next season of $7 a kilo.

"We're seeing good demand, particularly in China, but also generally across the global dairy market. We've also seen the New Zealand dollar come back slightly," Fonterra chair John Wilson said.

Mr Wilson said it was good news for farmers who were still recovering after two years of lower milk prices in 2015 and 2016.

"And it's great for our rural communities as well," he said.

But the higher cost of milk also meant higher input costs for Fonterra's food service and consumer goods divisions, which would hurt its earnings and dividends.

Fonterra lowered its dividends range for the current season to 25-30 cents a share and its forecast dividend range for the full year down to 15-20 cents a share.

"The business' revised earnings forecast is disappointing for our shareholders and unitholders," Mr Wilson said.

The total forecast payout of farmers rose to $6.90-$6.95 per kilo, which Mr Wilson said would be the third highest payout this decade.

Fonterra chief executive Theo Spierings said the company had not been able to pass on the cost increases it had experienced.

"There is always a natural lag in being able to pass through an increase in our input costs. But this increase has been both rapid and late in the year, making it difficult for these higher costs to flow through into our sales for this financial year," Mr Spierings said.

"Against this backdrop, we can see our sales margins are not where they need to be at this point in the year to achieve our original earnings forecast".

Revenue rose 7 percent to $14.8 billion for the first nine months of 2017-18 year due to higher prices, but total milk volumes fell 5 percent to 16 billion liquid milk equivalents.

That resulted in Fonterra's gross margins declining to 16 percent from 18 percent.

"With the increase in the price of milk fats we have also seen continued demand towards products with a lower fat composition, sustained competition in Greater China's foodservice market and further constraints in some Asian markets limiting our ability to pass through costs," Mr Spierings said.

That has been compounded by the $183 million damages payment to Danone and the $405 million writedown of its Beingmate investment in China, which was expected to push Fonterra's gearing ratio above its target of 40-45 percent range.

"We expect to be back within the target range next year," Mr Spierings said.

Some analysts were surprised at the size of the increase in the forecast payout, doubting whether the growth in demand from China will be sustained.

"We're a little more sceptical. We expect the Chinese economy more broadly to slow and we've seen signs of that already," Westpac senior economist Anne Boniface said.

"We're expecting the slower growth to be a bit of a drag on the Chinese consumer."

Westpac was picking a payout of $6.40 a kilo next season.

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