Commission Releases Draft Report On Fonterra's Milk Price
The Commerce Commission has today released its draft report on Fonterra’s base milk price calculation for the 2019/20 dairy season.
The base milk price is the average price Fonterra sets for raw milk supplied by farmers which is currently forecast to be between $7.10 - $7.20 per kilogram of milk solids for the 2019/20 dairy season.
The Commission is required to review the calculation at the end of each dairy season under the milk price monitoring regime in the Dairy Industry Restructuring Act (DIRA). The regime is designed to provide Fonterra with incentives to set the base milk price consistent with efficient and contestable market outcomes.
“The key areas of focus for us in this year’s review were Fonterra’s administrative and overhead costs, as well as the range of commodity products manufactured and sold,” Commission Deputy Chair Sue Begg said.
“Our review revealed no new areas of concern and we are satisfied Fonterra’s calculation is largely consistent with both the efficiency and contestability purposes.”
“However, we have retained our 2017/18 view that the asset beta that Fonterra applies is unlikely to be practically feasible. We note that Fonterra has signalled that it will establish a new estimate of the asset beta for the 2020/21 season and we expect this will become a focus for next year’s review,” Ms Begg said.
The Commission invites submissions on its draft report by 12 noon, Tuesday 1 September 2020.
The draft report and related information can be
found here.
Background
The
milk price regime is designed to provide Fonterra with
incentives to set the base milk price consistent with
efficient and contestable market outcomes. The regime exists
because there is not yet a competitive domestic market for
the purchase of farmers’ milk and the milk price is set by
Fonterra using an ‘administrative’ methodology. As
Fonterra determines and applies that methodology itself,
there is a risk that it might set a base milk price that is
‘inefficient’ – either too high or too low relative to
what it would be in a competitive market. A price that is
too high could act as a barrier to efficient entry by
processors.
Under the DIRA, the Commission is also required to review Fonterra’s Manual, which sets out its methodology for calculating its base milk price for the season.
Asset beta
The asset beta is used in
calculating the estimated cost of capital of financing milk
processing operations and reflects the extent to which the
assets associated with processing milk are more or less
risky than the stock market as a whole. A higher asset beta
would put downward pressure on the milk price Fonterra pays
its farmers.
The DIRA has recently been amended by Parliament, with a change reducing Fonterra’s discretion in setting the asset beta. This change does not affect this year’s review.