More market than milk

Activity levels in the dairy sector are very high, from New Zealand to the Netherlands, from dairy farmers to dairy companies. This comes as a response to steadily growing demand for dairy products. Yet, there are limits to the growth of production, even if milk quotas in Europe are set to be abolished as of 1 April.

A cow may calmly regurgitate grass and a baby contentedly drink milk from its bottle, but the industry sector connecting cows and consumers is characterised by very high levels of activity. From New Zealand to the Netherlands, this activity in the dairy sector has only one aim: to respond to steadily growing demand for dairy products, a key source of protein and other nutrients for humans. Global demand for dairy is set to increase by approaching 2.5% over the next few years, driven by growing markets in Asia and Africa. Local dairy farmers are insufficiently able to meet demand for the required volumes and quality. Therefore, large volumes of dairy imports from elsewhere are necessary. Countries with large, strong export dairy sectors, such as those of north-western Europe, Australia, New Zealand and the U.S., are seeking to capitalise on this opportunity.

Doing business with dairy businesses all over the world

Rabobank is involved in many of these developments. Of the total of over 90 billion euros in financing provided by Rabobank to the agricultural and food sectors, 15% relates to dairy. Rabobank is by far the largest lender for dairy farming in the Netherlands and provides loans to dairy farmers in the U.S., Australia, New Zealand, Brazil and Chile among others. Rabobank also does business with almost all of the twenty largest dairy companies in the world.

Alliances in Asia

That a position in Asia is important is evident from a summary prepared by Michael Harvey, dairy analyst at Rabobank in Australia. In the past five years, large Asian food and dairy companies carried out 17 big dairy sector acquisitions and investments in New Zealand and Australia. In their turn, dairy companies from those two countries entered into nine alliances focusing on Asia. And dairy companies from Europe and the U.S. also entered into alliances with Asian businesses.

An end to 31 years of milk quotas

The dairy sector in Europe is also targeting growth, especially now that 31 years of milk quotas are set to end on 1 April. The European Community introduced this supply cap in 1984, because subsidies in the dairy market led to surplus production. As this market aid has been phased out, the cap on volumes will also be eliminated. Leading up to this, dairy farmers in the Netherlands, for instance, have made substantial investments and already strongly expanded production. Dairy companies have added processing capacity for the extra milk, for two billion euros in the Netherlands alone.

Scale differences dairy farming

Dealing with natural limitations

‘There is more market than milk’, says Kevin Bellamy, dairy analyst at Rabobank, commenting on the high activity levels worldwide. Demand growth for dairy products appears to be outstripping supply, as dairy production can only grow if businesses deal effectively with the limitations of land, climate and nature while at the same time strengthening their competitive position.

Land is scarce

The availability and affordability of land are bottlenecks almost everywhere. Land is necessary for feed, for spreading manure and in some countries also to let cows graze. In New Zealand, land is becoming scarcer and therefore more expensive, owing to dairy farmers’ wish to expand and the increasingly stringent environmental requirements. In a much smaller country such as the Netherlands, land is already expensive and much more scarce. Dairy farmers in the Netherlands can only count on land from older dairy farmers who give up their business, but that is becoming progressively more difficult financially for these farmers. ‘Returns in the dairy sector are often a limiting factor. We have to find other financial solutions so that long-term entrepreneurs can expand their land area’, says Jan van Beekhuizen, sector manager for dairy farming at Rabobank in the Netherlands.

A competitive cost of production is another condition for being able to participate as a player in the global dairy playing field.

Not out of the running in terms of cost

A competitive cost of production is another condition for being able to participate as a player in the global dairy playing field. Traditionally, this has been one of the strengths of dairy farmers in Australia, New Zealand and the U.S., owing to their large dairy farms and less onerous environmental requirements. Those requirements are also becoming more stringent, however.

Europe is not out of the running in terms of cost, but does have ground to make up. Within Europe, the Netherlands is leading in terms of efficiency. Rabobank estimates that 30 to 40% of the almost 18,000 Dutch dairy farmers can already compete with the large businesses in New Zealand on cost. These leaders are characterised by solid entrepreneurship, labour efficiency and expertise.

Turning quality into cash in the market

Ultimately it is not just cost price that counts but performance throughout entire chain from grass to glass. Jan van Beekhuizen: ‘Because the requirements have been high for numerous yearsregarding the environment, animal welfare and spatial planning, Dutch dairy farmers have to contend with higher cost prices, but also lead the field internationally in terms of sustainability, quality and efficiency. Cooperative dairy companies successfully translate that advantage in the market into a structurally better milk price for their farmers. The challenge for dairy farmers is to use the improved revenue to retain their qualitative advantage and to improve cost price.’

However favourable the prospects may be, businesses cannot escape sharp price fluctuations for milk.

Causes of volatility will not disappear

However favourable the prospects may be, businesses cannot escape sharp price fluctuations for milk. They were already used to this outside Europe, but this is relatively new for Europe. Businesses have to be stricter in managing costs, liquidity and building up necessary buffers. That is because the causes of this volatility will not disappear. Rabobank’s dairy analyst Michael Harvey states in his analysis: ‘Dairy imports in Asia will expand, but the rate of growth will be slower over the medium-term as the market matures and consumers face lower rates of income growth.’ More or less growth of consumption will never exactly match changes in milk production as, ultimately, cows cannot be coerced.

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