The Fonterra Promise - Speech

“The Fonterra Promise”

Craig Norgate
Chief Executive Officer

The American Chamber of Commerce in New Zealand

Sheraton Hotel & Towers
83 Symonds Street
Auckland
New Zealand

1.00 pm
Thursday 14 February 2002
(New Zealand Times)

Thank you for your interest in Fonterra and for this opportunity to meet with you today. Today’s very strong attendance is another reminder, to me and to everyone at Fonterra, of the very high expectations for the company held by New Zealanders and by the business community in particular.

We’ve driven those expectations. We’ve spoken of earning the status of one of the world’s leading multinational dairy companies and a true national champion for New Zealand. We are committed to meeting – and exceeding – your expectations and ours. We don’t underestimate the challenge, but nor are we daunted by it.

It’s fitting that my first speech of the year to a business audience is to the American Chamber of Commerce in New Zealand. The United States is already, by far, our largest market. Second, throughout the Americas as a whole – from Bering Strait to Cape Horn – we are pursuing our planned 50:50 alliance with Nestlé, the world’s largest and most respected food company, and the US is a key determiner of the health of that region’s economy. And, third, the prize of a Closer Economic Partnership with the United States is a personal priority of mine, a priority for Fonterra, and it is an opportunity that should become a national obsession for New Zealand.

Fonterra is both a new company and an old company. On one hand, it is still only four months since the last remaining issues were settled between the boards of our legacy companies so that our industry merger could be finalised and Fonterra brought into being. On the other, we are very conscious that we are the custodians of an extraordinary heritage, on which we have a responsibility to build.

I’m not sure that all New Zealanders understand the scale of what our dairy farmers have built up over the decades. Our international marketing network should be seen as one of this country’s greatest national treasures. It has been able to be built because our industry has long been unified under the co-operative ownership of our dairy farmers.

The high-level numbers roll off the tongue easily. Dairy farmers have built a business with customers in 140 countries, 20,000 employees, assets of around NZ$12 billion, operating revenues of NZ$14 billion, and which earns 20 percent of New Zealand’s export earnings and seven percent of our GDP.

I’ll give you some examples of what those numbers mean in practice. Hundred-million-dollar-plus businesses – owned by New Zealanders – have been established in countries with which New Zealand has very little other commercial involvement. Last season, for example, we earned more than NZ$200 million from Venezuela, NZ$100 million from Algeria, NZ$160 million from Sri Lanka, and NZ$120 million from Egypt. For each of these markets, our earnings are more than 75 percent of total New Zealand exports to the country concerned. We’ve established a presence in those markets – and built experience working in them – that can benefit the wider New Zealand business community.

To give you a sense of our major markets, our seven largest markets span the Asia Pacific region. Exports exceeded NZ$300 million to each of Australia, Mexico, the Philippines, Indonesia and Malaysia, more than NZ$600 million to Japan, and – topping the list – over NZ$900 million to the United States.

That such an extraordinary global network has been established makes a lie of the old argument – pushed by at least one business newspaper – that New Zealand dairy farmers are not suited to owning and governing a successful international business. Over the years, they’ve constantly developed and changed the nature of their business to meet new challenges, and they’ve sought the right external advice and expertise where appropriate. They have acted with a degree of conservatism that at times has opened them to criticism from observers. But they have made the right calls at every important point of the industry’s development, going back several generations. Today’s dairy farmers and their board are continuing in that tradition.

There is a need with a new company to develop our governance style to ensure it is appropriate for the new company, and our board is focussed on that and are outlining their ideas to shareholders this week. But, as our chairman has said, much of the criticism in recent weeks has been overplayed. We’re not that interested in confronting that criticism. We’ll address it through performance.

Fonterra is a promise: a promise to our shareholders, to our nation, and to ourselves – every one of our 20,000 staff around the world. The rationale for the company’s creation was strong and compelling. Historically, our industry had operated with manufacturing carried out by hundreds of local co-ops and international marketing co-ordinated by a statutory marketing board. The structure made absolute sense when the co-ops were small; when clearly they were unable to handle international marketing themselves. But as our manufacturing co-ops merged and consolidated, the costs associated with the structure and the tensions it created became unsustainable. There was a need for change.

Our shareholders – and the Government – had a choice. They could break up the marketing network – the national treasure I have spoken of – and attempt to divvy it up among the remaining co-ops. Or they could finally bring the industry together, integrate manufacturing and marketing, and create a single “cow-to-customer” co-op, operating in a deregulated and competitive home environment, subject to the Commerce Act. Our industry leaders saw that as no choice at all. The latter course was, by far, the more compelling.

No merger process is easy at either the board or operational level, as many of you will know. Ours has been no exception. And, even today, we continue to hear the echoes of our industry’s old politics. Those echoes will bounce backwards and forwards for some time yet – I don’t doubt it. But they will get fainter, because they’re being swamped by the strictly commercial approach we are taking. I can assure you we are absolutely focused on delivering on our promise.

The first promise – the prerequisite for everything else we plan to do – was not to drop the ball at the operational level in any respect. This season we have faced the challenge of yet another year of record milk production, and record peak production through the spring. Our milk collection and processing operation in New Zealand has performed magnificently. We’ve brought new manufacturing capacity on line, at Clandeboye, Stirling, Tirau and Hautapu. In the market, we have not been spared the effects of September 11 and the slowing of the world economy. The average value of commodity milk powder has fallen by over a quarter in just six months. Despite that, we are confident we are on track to deliver a record payout to our supplying shareholders.

Our best estimate – and it is our policy to give best estimates, not to hold anything in the back pocket – is that our final payout this season will be a record NZ$5.40 per kilogram of milksolids, eight percent up on last year. If we can achieve it, it will be an excellent first milestone. Looking ahead, as we feel the first full-year effects of the significant global slowdown – we are forecasting a payout of NZ$4.50 for next year – lower but still respectable by historical standards.

Next year will be the first in which dairy farmers will also be able to measure our performance, in terms of changes in our share price. Standard and Poor’s in the USA has access to information about our company in excess of that ever provided to any external market analyst. They are the valuer of our shares and they carry out a full, external valuation process every year. It’s a new discipline on our business that I welcome.

In general I am very comfortable – and very pleased – with our operational performance thus far. We have not suffered from the customer-retention problems, operational problems or defections of key people that are typical in many mergers. But Fonterra is not about being comfortable. The promise we have made is to take the business to the next level of performance;- to exceed expectations.

The new business consists of a corporate centre here in Auckland; over-seeing the group, providing leadership and direction, and delivering services to shareholders. We have two major operational divisions. NZMP is responsible for milk collection, processing, manufacturing, logistics, and the marketing of milk powder and other bulk ingredients to the food industry globally. They take the milk from the farm in New Zealand and deliver it in the form of ingredients to customers such as Nestlé around the world. NEW ZEALAND MILK owns a network of companies marketing fast-moving consumer goods globally. In New Zealand, it includes Mainland and Tip Top, and it has a wide range of number one positions in countries as diverse as Venezuela and Sri Lanka. And our merger has brought us a wide range of other Fonterra enterprises, from biotechnology research to farm equipment stores, and two e-commerce companies.

It is a diverse range of operations but they need to be driven by one ethic, one strategy, and a set of people processes and disciplines to drive higher performance. Our chairman has spoken of the opportunity presented by the new company to establish a new “Fonterra Way” at board level. The “Fonterra Way” will go well beyond the boardroom to permeate every facet of the business in everything we do. It will bring us together and define us as a company. It may sound like a cliché but it exactly what global businesses such as General Electric do to define their unique culture. For Fonterra, it includes an absolute focus on performance – establishing a performance ethic across every one of our operations. It will be a culture of “no excuses”, through which we will earn the right to grow.

The first thing for which there can be no excuses is our absolute obligation to deliver on our Business Case for the merger. It is what we promised shareholders and this country. We identified cost savings, revenue enhancements and strategy gains, worth over NZ$300 million by the third full year after the merger. Everything we do to deliver on the Business Case is being measured in fine detail. We have an obligation to measure and transparently report on it. Right now, we continue to be on track. Our challenge is to demonstrate to shareholders that we have delivered the $300 million into their pockets, and then some – and then significantly more. It is entirely consistent with the performance ethic we will build: one where our people enjoy facing measurable targets and – more importantly – delight in achieving them.

It’s not an ethic designed to be comfortable. But it is designed to provide a real sense of accountability and achievement to every one of our 20,000 employees across the globe. To support them, our people processes and disciplines will promote leadership and development.

The next key priority for the year is to align our strategy, to take account of the new challenges we face and the new people and stakeholders our merger has brought us.

The formation of Fonterra was foreshadowed by our 1998 Industry Strategy. We have been extremely successful in pursuing it, to the extent it has largely been implemented. We continue to be confident the general direction of our strategy is right. But, at Fonterra, we take the view that good companies recognise the need for change before it becomes apparent. It’s time to update our strategy and to align the whole company behind it, including those who are new. It has to be a key focus for the year.

At the heart of the strategy – and at the heart of the case for the merger – was to ensure we continued to have the scale to launch an aggressive programme of acquisitions and joint ventures with other leading dairy and food businesses. Since our shareholders voted for our merger, we’ve been able to announce five key initiatives.

Among them, we have taken our first step into India – with its massive population – with a joint venture with Britannia, a bakery business with a national distribution network that is now moving into the dairy business. We believe we have a lot to offer them, and they us. In the UK and EU, we’re completing a joint venture with Arla, to bring our Anchor brand and its Lurpak brand together into one entity to position us better in that highly-competitive yellow fats market. In Mexico, we’ve established ourselves as the number one player in its cheese market and number three in spreads with our purchase of two companies, La Mesa and Eugenia. In the Americas, we have become the largest exporter of skimmilk powder out of the United States with our export arrangement with Dairy America.

Finally, most prominently – and also in the Americas – is our planned alliance with Nestlé – to establish joint ventures throughout North, Central and South America for a wide range of dairy products including shelf-stable and fresh milks. We have a range of other priorities for the year, including integrating our portfolio of assets in Australia and New Zealand. Between them, Australia and New Zealand have nearly 23 million consumers with high incomes by world standards and they are our home market. But it is developments in the Americas that have the greatest potential to excite observers here.

Our focus on the Americas is quite deliberate. From Bering Strait to Cape Horn is a dairy market worth over US$100 billion a year. Our turnover in the Americas last year was less than two percent of that. There is clearly scope to grow, and grow profitably. In North America, we see the United States and Canada with some of the wealthiest consumers in the world. In Latin America, we see a culture where dairy products are already an integral part of the diet, and growing. Demand for dairy products in Latin America is forecast to grow by around four percent a year over the next five years. That compares with annual growth in Western Europe, or Australia and New Zealand, of only one percent a year.

That’s the context for the planned alliance with Nestlé. It has benefits to both sides. In Nestlé, we saw the world’s most respected food company with the world’s leading brands, and a global research and product development capacity. They saw in us the world’s largest exporter of dairy products, with unique skills in large-scale milk procurement, processing and management, and with experience in industry consolidation.

The planned alliance will see us source fresh milk locally in the Americas, with dairy ingredients from New Zealand. We will use our brands and their brands, whichever is right for an individual market. Neither of us intends to be precious. It is a win:win deal and I am confident we will have announcements to make in the next quarter. That we are in a position to even contemplate a 50:50 alliance with a company such as Nestlé speaks for how well positioned we are in the market.

One of our motives for a joint venture and acquisition strategy is because many of the markets in the Americas – and elsewhere – are so tightly protected. Through joint ventures and acquisitions we can do business in markets where we may otherwise be shut out. It is a pragmatic solution but it does not compare with the need to see greater openness in international trade.

The world’s dairy trade is among the most protected and subsidised in the world. Of a total world milk market of around 560 million tonnes, Fonterra has access to just seven percent, and two percent of that access is constrained by quota. Some specific examples are as follows. The EU spends over US$1 billion on export subsidies each year. It is currently providing a subsidy to its wholemilkpower exporters amounting to 40 percent of the global market price. Of the EU’s five to six million tonne cheese market, we have access for just 11,000 tonnes. In the US’s four million tonne cheese market our access is just 22,000 tonnes. And, in Japan, the tariff on butter and anhydrous milkfat is so high we would have to sell it for over US$9,000 a tonne to make a return, when the international price is around US$1,200.

This is bad enough for our farmers and our nation. But the most significant net effect of subsidies and protection is to prevent developing nations from establishing viable export industries and lift themselves out of poverty. Liberalising international agricultural trade through the World Trade Organisation round would do more to reduce poverty in the developing world than any amount of international aid. We are supporting the Government in every way we can in its efforts to secure reform of international agricultural trade through the WTO. But trade liberalisation can and must be pursued on multiple paths.

High on the agenda right now is the proposed Closer Economic Partnership with the United States. I have committed myself and Fonterra to be leading advocates for it. The prize is too great to do anything else. The realists will say that the chances are slim, but the realists also said that achieving our industry merger would be impossible too. Realism has its place, but advocacy is what is called for here. It needs to be our national obsession.

Whilst there would clearly be direct benefits from greater access to the US market, it is the dynamic benefits that should interest us more. Greater access to the vast, vibrant and sophisticated US economy would increase New Zealand’s contact with talent, knowledge, ideas and capital. It would benefit us simply by raising awareness of opportunities for New Zealand, in the US, and further afield. The experience of Mexico is instructive. In the 1990s – the decade during which NAFTA came into play – it has moved from being the world’s 26th largest exporter to 15th.

There are also very real benefits to the US from an agreement with New Zealand. The key benefit is that we represent low-hanging fruit as they seek to achieve wider trade liberalisation goals in the interests of prosperity and security. With New Zealand – and with Australia – it has the opportunity to complete a model deal, one that would increase the momentum for further economic liberalisation in the Asia Pacific region. We have to believe it is achievable and – as businesspeople – we have to take the lead. It can happen if we as businesspeople do take the lead as advocates, by establishing the relationships, and build confidence on both sides.

We need to market New Zealand to US politicians and to the wider business community. More than that, we need to hustle to facilitate the deal. It will take a real commitment of resources and a constancy of purpose to achieve. I have agreed to chair the new New Zealand/United States Business Council as President, a sister organisation to the US/New Zealand Council based in Washington. It is about creating coalitions of interest between the two business communities to push the Closer Economic Partnership as hard as we can. Whilst as CEO of Fonterra, I unashamedly have a vested interest in the success of this project, so do you as key participants in our nation’s economy. I urge you to take a keen interest in what should be a key national priority.

Finally, I thank you again for this opportunity to meet with you and for your interest in the company. I can assure you, we will deliver on the promise – the promise that is Fonterra.

END

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