Why Fonterra needs a new capital structure WOF – new chairman Peter McBride

Fonterra chairman Peter McBride says fast emerging challenges in the next 10 years make it essential Fonterra does a warrant of fitness on its capital structure now – despite some shareholders’ views no change is needed.

“I’ve heard the ‘if it’s not broken, don’t fix it’ (view). So do we wait until it’s broken? That’s my response.”

“As we start to share with them the challenges we see in the next decade I think sentiment will change.”

McBride noted 62 per cent of the 1800 farmer-shareholders who responded to a recent sentiment survey on the capital structure review had strongly or slightly supported change.

Fonterra is owned by 10,000 shareholders, who each received an individual version of the survey. The order of questions were jumbled in each survey “so we weren’t leading them by the nose”, said McBride.

To the suggestion 1800 responses was a flimsy foundation on which to claim a mood for change, he said primary sector farmer levy votes struggled to get 20 per cent input, “so we are quite happy with that”.

McBride’s keeping his cards close on what capital structure reform may look like, but asked what challenges New Zealand’s biggest company had to prepare for, he said environmental issues facing the dairy sector could put pressure on New Zealand productivity.

On the other hand technology could help meet that challenge so for Fonterra R&D investment was going to be critically important.

“We need to be realistic and we have in our minds a number of scenarios. (On the premise) structure follows strategy, we need to look at how capital intensive we are in terms of how we approach business.

“Our manufacturing base is very capital intensive. We have capital employed elsewhere we are thinking about. We’re also considering more conservative gearing ratios.

“There is a need to consider the multiple pathways to capital – not just through JVs and other opportunities and not just leaning on shareholders.

“It’s really about the sustainability of the current capital structure. That’s what we want to talk about. But if farmers overwhelmingly don’t want change then we have to respect that.”

McBride it would be “pretty premature” to suggest the Fonterra Shareholders’ Fund (FSF) could get the chop.

Introduced in 2012 as part of divisive capital structure reform called Trading Among Farmers (Taf), the fund introduced sharemarket-listed tradeable units in farmer-owned shares.

The dividend-carrying, non-voting units are available to the public and can be traded by farmers. Only milk supplying farmers can own shares in Fonterra.

Farmers have to buy shares to supply milk – one of the rules undoubtedly under review by Fonterra directors, sensitive to the need to retain milk supply and enable young farmers to join as the country’s milk production continues to fall.

After a long tussle, the FSF was a compromise between the-then Fonterra board’s capital aspirations, and farmers who viewed then-chairman Henry van der Heyden’s strong push for capital structure reform as a thinly disguised bid to demutualise the cooperative and list its shares.

It will be a repeat of this 2012 division that McBride and his directors will be trying to avoid, while not allowing the potential for reform to drift. Given the new business strategy is heavily focused on creating value for New Zealand farmers from New Zealand milk, it seems unlikely any proposed reform will stray from the cooperative model.

McBride, a relatively fresh face on the Fonterra board who took over as chairman in November, agrees it will be a big call to finalise a reform package to put to shareholders by the November annual meeting.

“We want a high quality outcome, not a fast outcome and we don’t necessarily control all the timing around this. The highest priority is to get it right”.

That said, it sounds like the pace of the review, which started quietly with a sub-committee about two years ago, is picking up.

McBride implied the farmer research is pretty much done, though they will be surveyed again to see how they’re responding as the review progresses, and discussion has started with the Fonterra Shareholder Council, which will also be tapped for farmers’ thinking.

McBride agreed the FSF, which has its own board and administration, could be challenging to dismantle.

“I think we really need to start engaging with the supply base (on the fund). Once we do that we will get clearer air around that.”

McBride said a “few more months” of due diligence on legal and regulatory issues were ahead. Fonterra is a creature of statute, created in 2001 from a dairy industry mega-merger enabled by special legislation called the Dairy Restructuring Act, which also deregulated New Zealand’s dairy export industry.

“When we come out (with a reform proposal) we want to be really clear about all of that.”

Meanwhile, the new chairman’s governance style was evident in the company’s half-yearfinancial results presentations this week.

He wasn’t seen or heard, in line with his previously stated belief that management should be allowed to get on and manage. Past Fonterra chairmen were infamous for having their hands in the gearbox and making the job fulltime. Fonterra’s chairs must be milk supplying farmers.

“I’ll be there to support them (management) but they were their results so they should be proud of them,” McBride said.

The mid-year results showed Fonterra under new management and governors, and a sharply changed business strategy, continues on the road to recovery from disastrous financial results in 2018 and 2019, which cost its shareholders $4 billion in lost value.

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