THE NEW MILKY WAY: A GALAXY OF CHOICE The face of the UK dairy industry is changing radically ­ but will it deliver on performance and profit in years to come? Peter Crosskey reports Over valued sterling, disastrous farm gate prices, low world prices, major structural changes, and two Competition Commission inquiries. It has hardly been a vintage year for the UK dairy industry. Not surprisingly, many producers have lost faith in the future and have decided to quit now rather than to hang on in the hope of better times ahead. Others believe that things can only improve and a guarded optimism still persists among today's survivors. Starting at the farm gate, dairy farmers have suffered their fourth successive year of falling prices and many, if not the majority, now claim to be receiving less than the cost of production for their milk at payments of around 16ppl. Since 1995/96 farmers' prices have dropped by about 40% from a 26ppl peak. This has largely been due to the rise in the value of sterling against the undervalued Euro, which has produced a sharp decline in support prices for UK producers, particularly in the last year. On top of this, the Asian, Russian and South American crises of 1997/98 have continued to take their toll on exports which have dropped substantially in both price and volume ­ although the world market has rallied recently, with skim and whole milk powder prices reaching near-record levels. While all these factors are outside of the control of dairy farmers, the method by which they sell their milk to UK processors has also yet to find some sort of stability following the break up of the Milk Marketing Board in 1994 and its successor Milk Marque, which ceased operating on April 1 and has itself been replaced by three regional milk selling co-operatives. These Milk Marque triplets are now seeking to establish a long term viability worthy of the support of those farmers who haven't completely lost faith in the principle of co-operative marketing. Even the majority, though, who trade direct with processors or through other voluntary selling groups, have seen their premium milk prices slashed as processors seek to retain margins. It is forecast that many more British dairy farmers will throw in the towel this year. As many as 10% ­ much more than the 3-4% year on year decline ­ are predicted to bail out, and pessimists fear that the culling rate will be so severe that the UK milk output will fall significantly short of its annual quota for the first time since the EU milk regime was introduced in 1984. Although unlikely, such a shortfall would send shivers of concern through dairy processors as, more than anything else, they need guaranteed, consistent throughput at their plants to maintain viability. And yet, despite the difficult trading conditions, the Dairy Industry Federation, which represents processors, detects an underlying confidence. "We're in a new environment," says Federation director general Jim Begg. "We've had five difficult years since deregulation ­ with its implementation, not the principle. Now there's an opportunity to move forward." The fly in the milk is the exchange rate, which, despite recent signs of a fall, remains an intractable problem. The strength of the pound can curb the dairy industry's profitability, since it both determines the pricing of milk and swings the balance of trade against the UK. Many suppliers have now built the relationship between currency and milk prices into their pricing structure. "That's quite sound, from their point of view ­ they're getting as close to the market as they can," says Begg. "If you don't, you've got risks on both sides if the currency starts moving." There is a growing awareness across the industry that adding value is the only way forward. Begg also sees consolidation as an inevitable. It might be painful in the short term but beneficial for the whole industry in the long run, he says. In liquid milk processing, he forecasts over capacity. "That's not anybody's fault, that's a market working properly," he stresses, pointing to companies making investment in facilities such as non-returnable packaging lines which eventually creates a degree of redundancy and surplus capacity as there are fewer but bigger players in the market. While falling raw material prices might seem at first glance to benefit the dairy companies, there is little sign that operating margins have improved as a result. Most processing sectors have struggled to maintain profitability in commodity markets. A case in point is Dairy Crest ­ the former manufacturing arm of the Milk Marketing Board ­ which on July 3 finalises its £250m acquisition of the Unigate dairy business. Having advanced in branded sales by £1.2m to £32.6m, its commodity sales have fallen back by £2.2m. The acquisition seems at odds with market performance, but Dairy Crest chief executive John Houliston says its partly justified by the fact that Dairy Crest has acquired the right to use the Unigate name in perpetuity. This has potential value in the doorstep business, where the brand has a powerful presence. But beyond painting the green and white milk floats bright orange, it is unclear where branding for the rest of the portfolio will take him. Bear in mind that Dairy Crest's co-branding with St Ivel Shape products is limited to five years, while the use of the St Ivel brand in cheese only lasts for a further year. So where does Houliston see the new Dairy Crest heading? Buying 3 billion litres of milk a year, out of a total UK quota of nearly 14 billion, will give the company buying power for raw milk that will be hard to match. But this intake still has to be sold ­ and at a profit. First stop has to be the development of Dairy Crest's existing category management business. "The breadth and size of our business will make us a leading candidate for being a category champion," says Houliston. "We are a good partner for retailer brands, which we are delighted to provide." He says that he does not intend to shed any liquid milk capacity. But supermarket milk buyers are notoriously fickle. Sainsbury moved 20% of its supply from Dairy Crest to Unigate as recently as April, and there's no guarantee they will stay with them under the new arrangement. Meanwhile, Robert Wiseman dairies is on schedule to open a new plant at Droitwich in the spring of 2001. Tetra Pak will be installing £8m worth of processing equipment at the new plant which will carry milk from reception through pasteurisation and packing. Four reception bays will be capable of taking in milk at up to 50,000l an hour and feeding it into a 30,000l an hour processing line. "We are working hard to ensure the facility will be up and running by spring of next year," says chairman Alan Wiseman. "We are looking towards running a highly efficient facility and to serving our current and future customers in the south." The company has also commissioned Scotland's first hole through the wall' (HTW) plastic milk bottle plant at Bellshill, Glasgow. Under this system, Tetra Pak owns and operates the bottle making facility, delivering the bottles as needed down conveyor lines to the dairy hall. Wiseman's Old Trafford dairy opened the world's first HTW system in 1997. {{FOCUS SPECIALS }}