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A new code for Australian dairy providing some certainty in uncertain times

Agribusiness Bulletin

After a strong start, COVID-19 has seen the 2019-20 dairy year end with lower forecast prices amidst a shroud of uncertainty. This edition of the Agribusiness Bulletin takes a look at the new Dairy Industry Code of Conduct, and how it is likely to impact the market in the coming year.

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New code reduces uncertainty

On 1 January 2020, Australia’s newly established Dairy Industry Code of Conduct came into effect.

Developed following the Murray Goulburn pricing step-down in 2016, and alongside an increasingly strained relationship between farmers and processors, it aims to improve the clarity and transparency of trading arrangements, with all milk supply agreements required to be compliant by 1 January 2021.

The new code requires processors to announce their opening price by 1 June for the coming milk year (1 July to 30 June), providing farmers with an option (for those with no lock-in contracts) to look elsewhere if other processors are offering higher prices than their current contracts.

It also discourages retrospective step downs by milk processors, only allowing them in exceptional circumstances. The new code therefore requires processors to take further care when setting opening milk prices with reduced opportunity to revise them.

Importantly though, the new code provides farmers and processors with greater certainty – the value of which cannot be understated in the current market, where COVID-19 has eroded confidence and introduced uncertainty, in agribusiness, across Australia, and in economies around the world.

Lower milk prices forecast as economic growth slows

The new code has likely contributed to the lower opening price announcements compared to last year (Table 1). Without the potential for retrospective downward steps, processors would no doubt be more cautious in their price setting for the current year.

Opening milk prices across key processors for the southern region (including Victoria, Tasmania, South Australia) were announced as 7-9% lower than the previous year (excluding incentives, bonuses and premiums).

Table 1: Opening announced and previous prices at 25 June 2020 ($/kg MS)

Fig 1
Click image to enlarge

Source: Company websites and various dairy news publications
Note: for southern region including Victoria, Tasmania, South Australia) excluding incentives, bonuses and premiums, * Fonterra initially announced an opening price of $6.05kg MS on 1 June 2020 however updated this $6.40kg MS two days later on 3 June 2020.

While the new code is a likely contributor, it is global market headwinds — particularly from COVID-19 — that have largely driven opening milk announcement prices lower.

With global economic growth is expected to experience one of the sharpest contractions in history, demand for all consumer goods, including dairy products is expected to be dramatically reduced. And Australia, as an export-orientated producer (around one-third of the total production) is particularly exposed to this slowdown. Reflecting this, the Australian government has forecast global dairy prices to fall considerably in 2020-21, ranging from 8.8 per cent to 16.3 per cent (Chart 1).

Chart 1: World dairy prices, 2007-08 to 2020-21

Fig 2
Click image to enlarge

Source: ABARES

The domestic Australian dairy market is also not immune from the impacts of COVID-19.

Australia is one of the highest per capita dairy consumers globally, owing in no small part to our love of the flat white. The closure of cafés, restaurants and pubs has severely disrupted downstream dairy supply chains across Australia, and this, combined with weaker global demand has softened the outlook for dairy prices and shrouded markets in uncertainty.

Code strengthens certainty

In the current COVID-19 climate, the new code has already demonstrated its value.

Because it requires processors to transparently announce their opening price by 1 June, there is much greater competition between processors. This is evident in Fonterra’s swift revision of its initial announced price on 1 June 2020, up nearly 6% two days later to $6.40 per kg (milk solids) to remain competitive with other key processors.

The greater certainty and transparency in milk pricing should provide Australian farmers with improved confidence for the coming year. This in turn should help them plan for the next 12 months, particularly as they look to capitalise on the impressive start to the 2020-21 season.

Improved seasonal conditions, mainly in Victoria and Tasmania, look set to deliver a significant increase in production. Both ABARES1 and Dairy Australia2 are forecasting growth in production for 2020-21 of 1-3%, which would be the first increase since 2017-18, and a development that will support farm incomes by offsetting some of the decline in prices brought on by COVID-19.

The dairy code demonstrates the valued contribution that government can make in supporting the supply chain as it manages risk. The need for effective and efficient policy environment is likely to be more pronounced than any time in recent memory. COVID-19 is continually introducing new risks that agribusiness must navigate on top of what was already a complex and challenging sector. Importantly government cannot create this environment alone. Producers and broader supply chains must work collaboratively with policy makers to ensure Australian agribusiness is able to manage future risks.

Author:

Terry Ludeman – Director, Audit & Assurance

References:

1. ABARES Dairy: June quarter 2020
2. Dairy Australia, Situation and Outlook (2020)

Published: August 2020

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