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Fonterra says its $600m-plus financial hit is necessary. (Photo: Getty)
Fonterra says its $600m-plus financial hit is necessary. (Photo: Getty)

BusinessSeptember 13, 2018

Fonterra’s $200m loss explained: Why our biggest company is in the red

Fonterra says its $600m-plus financial hit is necessary. (Photo: Getty)
Fonterra says its $600m-plus financial hit is necessary. (Photo: Getty)

Milk is practically white gold, right? Turns out not so much, with Fonterra announcing a huge loss for the year. Business editor Maria Slade explains why our biggest dairy company has lost so much money.

Has our largest company really made its first ever loss?

Yes. Fonterra Co-operative Group has announced a $196 million loss for the year to July 31, 2018. This figure is its bottom line after all the bills have been paid, and is called net profit after tax (NPAT). Only in this case, it’s a loss. Last year, Fonterra’s NPAT was a profit of $745 million. So this is a stunning reversal in fortunes, and the first time the co-operative has made a loss in its 17-year existence.

Hang on – isn’t dairy one of our most successful industries and our biggest export earner?

That’s true. Fonterra is huge – its products account for more than a quarter of total New Zealand merchandise exports (stuff we sell overseas), and 7% of our total economy. And the fact of the matter is Fonterra still earns a lot of money. In 2018 it brought in $20.4 billion from selling its wares, 6% more than in 2017. Its earnings before interest and tax (EBIT, or what it earned after all the bills except interest and tax were paid) was $902m – however, that was down 22% on last year.

So how does a big successful dairy company go from a $745 million profit to a $196 million loss?

There are two main reasons for this massive turnaround. One is that in November, Fonterra was ordered to pay $232 million to the French food company Danone as a result of legal action over a contamination scare. In 2013, Danone had to recall some of its infant formula made from Fonterra products when the New Zealand company said there was a risk of bacteria that could cause botulism. It turned out to be a false alarm.

The second is that Fonterra has had to write down $439 million on its investment in the Chinese infant formula company Beingmate. In 2015, Fonterra bought an 18.8% stake in Beingmate for around $750 million. Since then, Beingmate’s share price has plummeted, and Fonterra’s stake is now worth over $400 million less than it paid for it. This drop in value has to be taken into account, and that has affected this year’s result.

Are there other reasons for the bad result?

Yes, the company says there are a few other factors. One is that it increased the forecast Farmgate Milk Price late in the season. This is the amount it will pay to farmers for their milk. It may sound counterintuitive, but a higher milk price is a cost to Fonterra as an organisation because it means it has to pay more for the raw ingredient that goes into its dairy products.

Secondly, it says it had been a bit too optimistic in its forecasts for the business. On top of that, butter prices have been really high which affects the amount it sells and its profit margin. Lastly, it didn’t get the earnings it was expecting in some parts of the business to offset a higher spend on its operations.

How does this affect farmers?

Fonterra is not actually a company but a co-operative that is owned by its farmers. The farmers get paid in two ways – the Farmgate Milk Price they receive for each kilogram of milk solids (kgMS) they supply, and a dividend they earn for each share they own in the co-operative. The final Farmgate Milk Price for 2018 is $6.69 per kgMS which is lower than they were originally going to get but is still relatively healthy, so they’re okay there. But because of this year’s loss, the dividend has been restricted to 10 cents per share and that was paid in the first part of the year. Last year, the total dividend payout was 40 cents, so that’s quite a drop.

Is the loss a surprise?

Not really. The Danone and Beingmate sagas are well known, and in March, the company announced a half-year loss of $348 million. In August, it lowered the Farmgate Milk Price and warned that the total dividend was likely to be just the 10 cents per share already paid out.

Should we be worried?

Probably a bit. Because of Fonterra’s enormous size, any reduced payout to farmers has a flow-on effect to the whole economy. Many commentators say it’s a concern that the co-operative’s earnings (the aforementioned EBIT) have dropped for two years in a row. The price of units in the Fonterra Shareholders’ Fund – the bit of the organisation that allows people who aren’t farmers to invest – has fallen from $5.50 when they were first listed on the stock exchange in 2012 to $4.96 today, so there are some grumpy unit holders. The CEO himself, Miles Hurrell, says Fonterra’s current performance is not good enough and he’s announced a plan to lift its game. This includes re-evaluating all its investments, major assets and partnerships; going back to basics on parts of the business that aren’t performing; and getting a bit better at forecasting. So watch this space.

Keep going!
Rental returns will decline, especially the cash element, says Mike Warrington (Photo/PYMCA/Avalon/UIG via Getty Images)
Rental returns will decline, especially the cash element, says Mike Warrington (Photo/PYMCA/Avalon/UIG via Getty Images)

BusinessSeptember 12, 2018

Are landlords being priced out of the property market?

Rental returns will decline, especially the cash element, says Mike Warrington (Photo/PYMCA/Avalon/UIG via Getty Images)
Rental returns will decline, especially the cash element, says Mike Warrington (Photo/PYMCA/Avalon/UIG via Getty Images)

Financial adviser Mike Warrington is warning his clients that investment properties are no longer the great little earners they once were. What does this mean for renters?

Rental property investment is progressively being defined by our regulators as a commercial activity and as a result, will be impacted more heavily by future costs.

In due course, I suspect that both short and long-term rentals will be caught in the definition of being a commercial activity.

Councils are eagerly trying to discover which properties are being regularly let out via Airbnb or Bookabach-type portals, so they can apply higher commercial rates or bed taxes to boost their revenue.

At face value, this money-grab may seem greedy or harsh, but in reality, the increased levels of tourism – which drive the additional income to property owners – are delivering more wear and tear on regional services and therefore need expansion and maintenance.

I would prefer to see an element of user-pays employed in raising revenue from surging tourist activity, rather than a hike in my residential rates for no change in service level.

But I’ve strayed off my point: residential property investors are sitting in the ever-increasing glare of the regulatory spotlight and I don’t think it’s going to let up, so rental returns will decline, especially the cash element.

Beyond the council reaching into the pockets of investment property owners, Housing Minister Phil Twyford has announced an intention to increase the minimum health standards that must exist if a property is rented out (he reports that 600,000 properties in the rental pool don’t meet a satisfactory standard).

For the record, I don’t understand why the National Party would speak out against Warrant of Fitness standards for rental properties. Opposition housing spokesperson Judith Collins’ flippant response predicted that a WOF for rental properties would lead to more people sleeping in cars, without recognising the unintended humour in her statement (at least cars are required to have a WOF).

Landlords will, as they always do, call out that they’ll simply increase rents to cope with the additional imposts put upon them. Phil Twyford must respond by actually delivering a greater number of affordable homes or excesses to Housing New Zealand stocks, and suppress any unreasonable rental increases.

Lastly, if the government seeks even more influence it could press the Reserve Bank harder than it did previously and insist that central bank regulations require all banks to define property ownership by purpose – residential, holiday house, or commercial investment, i.e. rental – and then demand greater bank equity when lending against such rental properties.

Greater equity demands over the banking framework will result in higher interest costs to borrowers for rental properties.

We can’t be far from the point where a property investor must achieve capital gains to make progress because cash returns in the examples that I see are modest to poor (after expenses).

Ultimately, I am highlighting that regulatory risk will always exist for all investment types, it’s just that today it is rental properties that sit in the spotlight.

Mike Warrington is an Authorised Financial Adviser with Chris Lee & Partners based on the Kapiti Coast.