The board is suggesting a value drop of 20-25 %. This will prove to be conservative; I am picking a halving of the share price with the large overhang created by the requirement to have only one compulsory share for every 4kg MS
Of course the board says it is “agnostic” on whether the fund is bought out or not. Just imagine if they didn’t and farmers could only sell to other farmers.
Exiting farmers needing to sell shares at a very low price would look askance at what those shares are selling for in the unit market. The unit market assists in real price discovery, which in turn reflects on the Fonterra performance, including dividends. The staff would have more leeway to shovel dividend into milk price, despite protestations from the board that this is not possible. That in turn would allow Fonterra to offer a more competitive milk price without having to drive further performance improvements and efficiency gains. In fact, if an independent capped fund remained, Fonterra would be incentivised to produce a low dividend.
The unit fund has been working well and has always comfortably stayed below its potential size. When it was set up it was through concerns from shareholders about undue influence from unit holders, despite their lack of a voting right, that the fund size was limited to 15% from the initial higher proposed limit. It was always implicitly understood that the fund size could be raised if such influence did not materialise, which it hasn’t. The fund size could easily be lifted to 25% or more without any realistic risk of undue influence by unit holders. In this manner TAF could comfortably cope with static or moderately declining milk volumes. Only a sustained sharp decline in milk volumes could become an issue and quite frankly at that point Fonterra would have far bigger problems to deal with than the fund size.
The proposal is typically loaded with Fonterra spin, one of the most annoying being that it keeps talking about 100% ownership and control as if the two are indistinguishable. TAF has proven that 100% control is entirely feasible without 100% ownership. It seems that the fund size and potential fund size issues raised by the board are a red herring. I suspect the real motivation is a desire to drive down the share price. That would make it easier for new entrants and of course, coincidentally, it would make any dividend look better as a percentage of the share price, effectively taking pressure off performance. Admittedly, performance and efficiencies have improved in recent years, but there is a long way to go and the pressure needs to stay on to improve both performance and culture in the co-op.
There are many aging farmers like myself who may have had to buy shares at prices just under or above $6. They have received very little dividend over the years but considered that if Fonterra improved its performance, the share price would increase, providing them with a nice little capital gains nest egg when they sell up or pass their farms on to their children. New entrants have ample opportunity to come in at low cost via the 10-year sharing up plan currently. But also unshared contract supply should be a future option again. This contract supply should not come at a cost to the shared up supply and would be subject to limitations. Of course contract milk would again put much needed pressure on the co-op to improve performance as it would have to offer a competitive milk price. Shared up farmers would accept the return of contract milk if it means they receive a worthwhile return on their shares. Contract milk would assist with keeping our stainless steel full rather than see it stranded.
I will leave issues such as impact on the balance sheet, reactions from banks and the government, and the like, for others to comment on.
TAF shifted redemption risk from the co-op to individual farmers. Now in an ironic twist of fate the board is using this situation in an attempt to ease entry for newcomers at the cost of existing shareholders. The current proposal – make no mistake, there is only one, the others are window dressing – takes pressure off performance and is a kick in the guts for retiring farmers that have been loyal and have shared up at considerable cost. Treating loyal shareholding suppliers like this sets a poor example for potential entrants.
Many supplying shareholders are in their late fifties or sixties and looking ahead to exiting with a deserved tax free retirement bonus. The Board needs to amend the proposal to provide better value for exiting loyal shareholders by ensuring that they get fair commercial value for their shares. A clear path would be to maintain the unit fund with a raised size limit and possibly some tools to control the flow of co-operative shares to the fund when the potential fund size threatens to blow out. The board could also research mechanisms that align the values of the two classes of shares. A larger unit fund would be an effective price discovery mechanism and provide greater farmer equity than the current proposal. Farmers need 100% control, they currently don’t have and don’t need 100% ownership.
