Survival plans for the free-market future

In one respect at least, dairy farmers have been lucky.

While ex-farm prices are still far too low for many to make a decent living and reinvest, things could be much worse.

Despite the incremental removal of market support mechanisms engineered by Brussels as part of its recent CAP reform measures, commodity prices have stayed well above intervention levels.

Those cuts were, of course, designed to bring down ex-farm prices across the EU, with the dairy premium providing some compensation.

But, buoyant demand and tight supply have kept world prices high over the past 18 months.

Skimmed milk powder/butter is still trading at a 2p/litre premium over intervention, and that has provided some support for ex-farm prices.

It’s anybody’s guess where prices for these goods will be in a year’s time, let alone 10. Currency shifts and changes in the global supply/demand equation fool the best economists most of the time.

But world prices will fall at some point, putting UK milk prices under pressure too.

And prices are likely to become much more unpredictable as WTO measures bite, opening up trade barriers and exposing our domestic market to world market volatility.

When it comes to change, especially of this magnitude, there is nothing like being prepared.

It’s a challenge, according to NFU dairy board chairman Gwyn Jones, that the whole dairy chain must face.

The time is ripe, he says, for the chain to work together, tackle the problems that are the legacy of a decade of often bitter confrontation, and move on.

He believes many farmers realise there is no simple answer to the problems the industry is facing; problems that have seen farmers’ share of the dairy supply chain fall over the past decade, while that of the retailers has increased (see graph).

“It is dishonest to pretend there is a quick fix.

We’d all like to see redistribution of milk margins, someone tackling retailer power, the appointment of a milk regulator.

“But we have already wasted too much time.

The danger is that we keep chasing rainbows – wasting another year or more.

“There is no future in retail price initiatives of any sort – it is wrong to go cap in hand, begging for more money, and their failure shows that persuading supermarkets to pay more for milk does not help the farmer.

“To be successful, we have to work on things that benefit everyone, including our customers.”

The recently released NFU document, A Vision for the Dairy Industry, seeks to challenge much accepted practice, to stimulate discussion to produce a competitive, dynamic, market-driven and profitable dairy industry.

Mr Jones reckons there’s plenty to discuss.

“Processors have failed in particular to drive efficiency, innovation, added value and exports.

They are now struggling more than farmers to see what is needed.

“And farmer co-ops failed to start with new commercial strategies, stuck with the old principles of pool pricing, and were not properly accountable and transparent.

They are changing, but we need to push them on.

“All milk buyers – PLCs and co-ops – failed to produce proper contracts and to match them to market needs.

This has discouraged farmers from taking responsibility for what they produce, and has resulted in low farm-gate prices.”

The “all-powerful” retailers remain a big problem, with their competitiveness putting huge pressure on milk prices, says Mr Jones.

“With milk processors able to protect their margins, the brunt of this pressure has been on farmers.

The effects will prove unsustainable.”

Farmers must also take their share of the blame, he admits.

For too long, many clung on to the old mentality of expecting a good price for milk that suited their system, rather than efficiently producing what customers wanted.

“And, most of all, they have never stuck together to improve their lot.”

So what of the future?

“We are in the best position in Europe – we ought to be looking to expand,” says Mr Jones.

“While there is a bright future, I don’t underestimate the difficulties to get to that point.

There are big market opportunities both in the UK and in Europe, and world market prospects are positive, but we cannot ignore WTO talks and the threats that trade liberalisation may bring.

“Some producers could compete, but it is vital that the value-added market is completely separated from commodity markets, so that our industry is not connected with commodity prices.

“The challenge will be resisting the possibility of savings being taken by, or given away to, the retailers.

Until we have transparency and accountability, I cannot see how we get more money to the dairy farmer.

“It will always be taken by someone else, and all our energies are spent looking for it and blaming everyone for taking it.”

One key area that could help is the introduction of direct contracts between farmers and supermarkets.

Both parties would agree terms to appoint processors as contractors.

“Retailers would then be able to drive efficiency in the processing sector, something which frustrates them at present,” he says.

“They know that whenever they put pressure on, money is simply deducted from the farmer.”

Mr Jones is working hard to push the NFU agenda.

“I am determined that the vision document will not gather dust, he says.

“We are working on contracts already, drawing up a code of conduct.

Dairy UK has taken the challenge of benchmarking processing against international standards, and we are looking at ways of creating a ‘school of excellence’ to promote innovation.”

The second document being hotly debated in dairy circles is the recent publication by the Milk Development Council, Raw Milk Contracts & Relationships – The Need for Change.

It states that existing contracts often lead to farmers not meeting market needs, producing the wrong milk in the wrong place at the wrong time.

This reduces profit for everyone, particularly farmers.

It warns that such poor market signals could see the UK losing ground to competitors in a freer market.

The MDC suggests contracts should be more focused on different markets and customers.

To succeed, contracts need clear pricing over a known period set by a transparent system; to be of known volumes; appropriate to the farmer and to be realistic with appropriate allocation of risk and reward.

Kevin Bellamy, MDC chief executive, says both documents have stimulated much-needed discussion.

“The industry is beginning to get an understanding of what needs to be done.

“Farmers should expect CAP reform to bite eventually – we can’t rely on world prices staying high.

And we also expect a WTO deal will be done on market access sometime next year.

That will affect the floor of the market – although it is likely that world prices will rise somewhat to meet European prices, it is still a price-depressing factor.”

Mr Bellamy believes the industry needs to tackle three key areas.

“To understand why they are important, we need first to look at the deregulated market place.

Every economic indicator in the world suggests milk should be produced in the UK.

Milk ought to flow north and west from southern Europe; to where the grass is and where the large, more efficient herds are.

“To attract the necessary investment, we need to develop an internationally competitive dairy industry, at processor and farmer level.”

Producers will need to become more efficient.

“I know farmers get sick of hearing this,” he says.

“I mean we need to stay more efficient then the Danes and Irish, our biggest competitors.

We need to stay ahead of the USA, so it remains the balancing supply to the world market and we avoid all the volatility that goes with that.”

Processors also need to improve their game, he says.

“Processing costs have remained fairly stable over the past 10 years.

We would have expected them to fall.

Processors should be looking at their businesses as farmers have had to; one of the things Dairy UK is moving towards is to provide a benchmarking service.”

The third area to tackle is contracts.

“The ridiculous thing is that farmers are being offered contracts with a 12-month notice period.

Yet the risk is mainly at the farmer end – the price can alter overnight.

“And people are being offered contracts on constituents, which are then going to the liquid market.

That costs farmers more, and sets the wrong targets.

The processor gets milk he doesn’t want, or it’s in the wrong place, or it costs more to process.”

Farmers should be able to opt out when a contract price changes, says Mr Bellamy.

“Dairy companies say farmers are liable to make the wrong decision.

I think that’s patronising and naive – farmers are businessmen, and should be able to make a choice.”

Competition laws also need to change to allow much-needed consolidation.

“The industry needs this to compete in a world market.

I really struggle to see how the current situation, which refers a small takeover by Wiseman in Scotland, can make sense – it’s bizarre.”