Fonterra may win right to reject milk from ‘dirty dairy’ farmers

Fonterra looks likely to win the right to refuse to take milk from dairy farmers who fail to meet environmental, animal welfare and other standards important to the co-operative’s reputation under proposals released yesterday.

However, the discussion document on options for reforming the Dairy Industry Restructuring Act (DIRA) stops short of Fonterra’s desire to be freed from the “open entry and exit” provisions it says prevent it from pursuing value-added strategies.

Instead, the preliminary conclusions outlined in the document released by Agriculture Minister Damien O’Connor says there is nothing stopping Fonterra from dropping its milk price for farmer shareholders if it wants to reduce supply.

The DIRA was enacted in 2001 to preserve competition in the New Zealand dairy market in exchange for allowing the country’s two largest dairy co-operatives at the time to merge, giving them scale and greater efficiency in export markets.

The release of the discussion document is a crucial step along the way to likely legislative reform, most probably by the end of next year.

The Ministry for Primary Industries is seeking submissions on the Under new proposals, Fonterra could refuse milk that fails to meet standards, harming the co-operative's reputation.

proposals by February 8 ahead of policy decisions next year.

Suggestions the co-operative should be broken up are not addressed, although O’Connor acknowledged that if Fonterra’s commercial performance did not improve “in the future, that could be one of the options”.

The discussion document does not make specific recommendations but it does give strong hints about the

direction of official advice.

For example, preliminary findings favour tightening up the way in which Fonterra calculates its base milk price.

While the Commerce Commission reviews that annually, Fonterra has considerable leeway in the definition of what constitute “practically feasible” assumptions, inputs and processes for a notional “efficient processor”.

“It is therefore timely to consider whether a similar level of guidance/ prescription (to other parts of the base milk price calculation process) could usefully be provided for the ‘practically feasible’ part of the . . . calculation to further improve confidence,” the discussion document says.

However, it acknowledges the legal principles required to enact such an approach “is difficult”.

It also finds there is no evidence that the requirement for Fonterra to supply international investors entering the New Zealand dairy industry is encouraging inefficient entrants.

However, it does propose moving to a system where dairy processors requiring more than 30 million litres of milk annually should not be subject to guaranteed Fonterra supply arrangements.

It also suggests that the current “entrance pathway”, allowing access to 50 million litres of milk for new processors, is no longer fit for purpose.

“It seems timely to consider whether the original rationale for providing access to regulated milk to large dairy processors during their establishment stage still stands.”

Fostering competition for dairy products in the New Zealand market emerges as one of the most thorny issues in the DIRA review, with tension around current arrangements that guarantee Goodman Fielder 250 million litres of raw milk annually from Fonterra for competitive domestic supply.

The review findings note that while Goodman Fielder has done less to find its own raw milk supplies than had been anticipated when DIRA was enacted, new international players had shown little interest in entering the domestic market.

As a result, Goodman Fielder remains Fonterra’s only large-scale domestic competitor.

Proposals include a sinking lid on Goodman Fielder’s annual entitlements as a way to ensure the company does not become overly reliant on the regulated milk supply.

However, the report notes “there is a relatively high risk that this option may simply deprive Goodman Fielder of a reliable raw milk supply, with consequent detriment to consumers”.

Likewise, a proposal to force Fonterra to sell raw milk to competing processors at the same price as it sells milk internally to its Fonterra Brands arm might preserve domestic competition “but could also increase undue regulatory dependency over time”.