A new UHT plant, capable of processing 50 million litres of milk a year is under construction at Rolleston in Canterbury while a new dryer, dubbed D7, capable of processing 20,000-25,000 tonnes a year of infant formula is going up on the Hokitika site.
It’s the co-operative’s biggest single move yet in its drive to push more of its milk into higher value categories and one its chief executive Rod Quin says will set the platform for the next stage of its strategy.
That step could see it go down the branded product route and put it’s somewhat under-used Westgold brand on retail shelves to compete with the big names in nutritional retail products, sports and recovery drinks as well as enter into the food service cream category.
As it is, the new processing plants when full will mean more than 40% of Westland’s milk supply will be classified as value add, even if they’re initially not going out under its own brand.
Quin said it could be a couple of years before both new plants and its D6 dryer, also capable of producing infant formula, were running at full capacity but when they did the business would have been transformed so its products were a lot further along the value chain.
The aim was to consistently pay suppliers a premium for their milk over what a commodity producer could pay, he said.
And that’s what Westland suppliers want to see – a regular premium in their payout that would ultimately be reflected in their land values, chairman Matt O’Regan said.
After all that’s the beauty and strength of a co-op. The value of higher returns should be seen in farmer shareholders’ land prices rather than in the share assets of people outside the farmgate, O’Regan said.
Last year the co-op’s product mix was blamed as a significant reason for it being out-done by other processors with its payout to its suppliers at $7.57/kg milksolids (MS) well short of its competition, particularly Fonterra’s $8.50/kg MS.
Shareholders were dissatisfied with the result and there was talk in Canterbury of several of its relatively new east coast suppliers quitting the co-op.
Quin said in fact four suppliers indicated they might leave but in the end two did.
This season Westland’s product mix, especially its skim and casein products, has worked in its favour putting its current payout forecast of $4.90-$5.10/kg MS close to Fonterra’s.
But pinning its fortunes to the vagaries of commodity cycles is definitely not where it wants to be.
Quin gives the sense he’s champing at the bit to move quickly into the branded arena and explore more opportunities in the form of partnerships, acquisitions or joint ventures.
But he’s conscious such steps take time and require a disciplined, planned approach.
Matt O’Regan, left and Rod Quin – Westland value-add expansions well under way.
They also take plenty of investment.
The current expansions will cost more than $150m with D7, due to be commissioned later this year, now expected to cost $114m rather than the original $102m thanks mainly to an underestimation of seismic building requirements.
The D7 dryer can process 3.9t/hour when on infant formula, double what the D6 plant can do.
It can also process whole milk powder (WMP) at just under 6t/hour and will be commissioned on WMP later this year.
Quin said they opted for that size dryer rather than anything bigger because they weren’t chasing the big tier-one customers who wanted 10,000t/year of product.
“We don’t want all our eggs in one basket,” he said.
Instead Westland wants the flexibility to initially produce product for a number of smaller customers and the ability to produce to a variety of recipes and specifications.
Initially infant formula will be going out in 25kg bags and canned elsewhere.
The over-runs on the dryer costs have meant some “nice to have” projects have been put on the back burner for now.
A canning line at Hokitika, for instance, will have to wait as will an extension to the laboratory.
Quin said while it would be good for Westland to have a dedicated canning line for complete supply chain management, using a contract canner wouldn’t prevent the co-op from moving into its own branded, retail-ready nutritional products if it decided to do so in the future.
The UHT plant, due to start producing product in January 2016, is budgeted to cost about $40m and will have two 250ml packing lines and a one-litre line.
It’s a Tetrapak plant and the plan is to have Westgold branded, retail-ready packs and one-litre food service cream packs.
The plant will open up options for Westland to develop beyond white milk products and look at products such as sports recovery drinks too.
“We don’t have definite plans to do that yet but we will have options and once we’ve got these plants running we can then make the decisions about what we do next with the remainder of the milk we’re still putting into commodities or the value-add we’re already doing.
“Rather than investing in more stainless steel to process more milk we might look at continuing to lift the value of what we’re processing already. We’ll be able to contemplate whether we put our own brand on products we make, or we could buy into a business.”
Westland considered partnerships for its UHT plant but the board decided to go it alone and fund the investment through a combination of bank debt and shareholder retentions.
That’s brought its debt-to-equity ratio down below the 50:50 split it had been operating at but the board and management were comfortable with the level of debt, he said.
Westland already has a successful example of a partnership in its EasiYo business which it bought into back in 2008 before going on to take full ownership of the company.
The subsidiary, which operates in several countries globally, is expected to generate revenues of more than $50m this year, up on last year’s $43m and in line with consistent double-digit, year-on-year growth.
Its bottom line last year was squeezed by high commodity prices and it felt the effects of Fonterra’s WPC80 scare in China.
Westland has its own office in Shanghai now to help develop relationships and market its products. It currently has about 20% of its total sales going into China although 60-70% of its base infant formula business is destined for that country.
The co-op isn’t looking for more milk, content with increases likely to come from existing shareholders.
Capital structure on the agenda
Westland Milk Products is reviewing its capital structure as it sets itself up to push further along the value-add route.
Chairman Matt O’Regan said board members and management were looking generally at capital structure options that could meet the challenges faced by a co-op that’s aiming to deliver improved value to its shareholders.
“Westland will always maintain its strong co-operative principles but we have to recognise that every business, no matter what structure, will always have to adapt.
“If we don’t do anything we’ll weaken the co-op over time. But the right steps taken through a robust process with inputs from shareholders and advisers will strengthen the co-op and future-proof it,” he said.
Unlike Fonterra, where its need for capital structure change was centred around redemption risk, Westland’s review is driven by a likely need for further capital investment to implement additional value-add strategies, the possibility of future joint ventures or partnerships and a desire to reflect the investment farmers put into the co-op through retentions.
One option, described as a subset of the capital structure discussion and designed just to address the issue of how to reflect farmers’ contributions through retentions, had reached a road block because of difficulties where shareholders employ a sharemilker.
About 30% of Westland’s shareholders employ a sharemilker. Currently Westland Milk Products shares are set at $1.50/share but a new, separate class of share – an H share – was proposed that would allow its value to be held by farmers on their balance sheet.
Westland already has a small number of B, C, D, E and F shares, with some issued at a discounted rate earlier in the company’s history when it was actively trying to encourage growth milk.
The H share value would be determined by the value of the retention kept each year minus tax paid by the company, with the net figure added to annually as retentions were kept. That would see the value of the H share increasing along with farmer contributions through retentions.
But Westland’s constitution has no explicit provision to ensure the share value would fall only to the farm owner.
O’Regan said the proposal had been parked while it was worked on further.
Any vote on the issue would require 90% of those voting to vote in favour and until the outstanding matters are cleared up for farm owners with sharemilkers that hurdle wouldn’t be met.
Chief executive Rod Quin said the aim was to find structures that would enable the company to accelerate payout through investments in value-add activities.
It needn’t be complicated but it did need to establish an appropriate way to structure further investments, particularly if they were to involve partners.
