Murray Goulburn’s decision to open 2017 farmgate prices below the cost of production and below market expectations will put farmers in the gun and banks on high alert to revisit their exposure to the dairy sector.
The banks have already been running the ruler over New Zealand where their exposures are much higher. Nevertheless there are billions of dollars of credit exposure to dairy farms in Australia.
For instance, National Australia Bank and ANZ each have an estimated $1.5 billion exposure to the Australian dairy industry. In ANZ’s case, impaired loans for forestry, fishing, agriculture and mining was $892 million out of a total exposure of $49 billion at its most recent balance date. Two-thirds of this exposure related to agriculture of which $13 billion related to dairy, most of which is in New Zealand.
Brett LeMesurier, head of research at APP Securities, which last week won the best research house at the Stockbrokers Awards, said the market should expect higher rates of bank impairments from Australian dairy exposures following Murray Goulburn’s farmgate price announcement.
NAB made no specific provisions for New Zealand dairy in its last result, notwithstanding that it had more than $500 million in impaired loans. It seems the bank’s judgment was that the value of the farms would exceed the outstanding debt obligations.
That is all well and good, but if milk prices continue to fall, it stands to reason that the property values of the farms will come under pressure. This is the potential source of more bad debts.
There are billions of dollars of credit exposure to dairy farms in Australia.
Murray Goulburn’s opening price comes at the worst time for the National Party, particularly its party leader Barnaby Joyce, just days out from the federal election.
When farmers hurt, it quickly becomes a political issue. David Basham, acting president of advocacy body Australian Dairy Farmers, told Fairfax Media that farmers would now endure 12 months of being paid less for their milk than the cost of producing it.
In recent months farmers have taken their plight to the public through a string of rallies. Consumers, for their part, have switched from $1 milk to help support the struggling dairy industry and politicians have offered rescue packages.
The Australian dairy industry crash came in April when Murray Goulburn, the price setter, changed the price it set for milk and made it retrospective, sending some dairy farmers into a debt spiral.
Until then, farmers had been living in a bubble. The price of dairy internationally had been falling but Murray Goulburn believed it could buck these trends and set its price too high.
But it all fell in a heap when a confluence of factors weighed on it, including slowing Chinese demand and changes in the European markets, which put downward pressure on global milk prices.
Murray Goulburn’s day of reckoning finally came, along with the departure of its CEO Gary Helou.
The knock-on effect was profound. The share price slumped, farmers rioted, the regulator ASIC confirmed it would investigate whether the company had breached continuous disclosure rules and a class action law firm said it would investigate a possible class action, alleging misleading or deceptive statements in the product disclosure statement and subsequent market announcements. Murray Goulburn denies any wrongdoing and says it will defend any legal action, but it has done little for its reputation.
On Tuesday it unveiled an opening price at $4.31, which is the price after the 14 cents a litre for loans it gave to farmers. It expects the price to rise to $4.80 by the end of the 2017 season. But it is a far cry from the heady $6 price tag Helou had once promised the farmers.
In a statement to the ASX, Murray Goulburn said although net debt for June 30 would be below broker consensus estimates of $550 million, it would “release” working capital to improve cashflows and tackle its capital position.
This could be interpreted as a euphemism for the company needing to shore up its balance sheet, particularly in light of the tough global conditions.
In its statement, the company didn’t pull any punches, saying “the latest data suggests excess global inventories, including the impact of European intervention, may have surpassed the equivalent of 6 billion litres of milk”.
Given the turbulence, Murray Goulburn said it would embark on a controlled exit of inventory holdings as well as cut costs.
Put simply, Murray Goulburn has a lot of work to do to repair its relationship with shareholders and farmers. A start would be a clean-out of the board.