By David Hargreaves
It may seem strange to suggest that people need to look past Fonterra's 'headline' annual result in assessing how badly our giant dairy co-operative has gone astray.
On one level the net loss of $196 million would seem the perfect place to start in terms of saying, wow, bad year, what are you going to do about it, people?
But, remember the result included a combined, spectacular, $600 million hit from the Danone case ruling following the 2013 botulism scare and the Beingmate writedown.
So, you might say that without those two things, the year would not have been so bad.
But yes, it was bad - and the double whammy Danone/Beingmate impacts should not overshadow that. Focusing on the two 'big ticket' items contributing to the loss would only help blind us to the fact that Fonterra is an organisation in very bad need of grass-roots recreation and rebuilding.
The poor performance runs deeper
For me it was highly significant that Fonterra, in stating that its debt position - as given by its measure of 'gearing' - had risen to 48.4% from 44.3%, also indicated that about, roughly three-quarters of that increase was down to the twin Danone/Beingmate blows.
So, in other words, and far more damningly in my view, about a quarter of that rise was down to the sheer poor performance - pushing to one side for a moment the rights and wrongs of the Danone and Beingmate misadventures.
Fonterra's indicating that it wants to reduce it's debt by about $800 million this year. That's a big ask even for a big business.
It's worth tracking what Fonterra's 'normalised' operating earnings (EBIT) have looked like since 2014 and the bumper $8.40 milk price year.
In 2014 normalised EBIT was $269 million. The following year as the price of milk dropped, and therefore the co-op's costs dropped, the normalised EBIT rose to $974 million. Then in 2016 it jumped again to $1.358 billion.
However, last year it slipped back to $1.155 billion, and this year it's down to $902 million. So, in the past two years Fonterra's operating earnings have slumped by just over a third, which is a lot. That is a trend that needs turning around quite quickly.
Over the same period, the return on capital has fallen from 12.4% in 2016, to 11% in 2017 and now just 6.3% in 2018.
We are all stakeholders
Obviously the success or otherwise of Fonterra is vital for farmers - but it goes much further than that. We are all stakeholders. The decision to create Fonterra made the whole country dependent on Fonterra doing a good job and getting good bang for our dairy buck globally.
If Fonterra mucks it up, there goes a big part of our economy.
So, I would say Fonterra's efforts to right itself this year will need to be watched very closely. I honestly feel that if Fonterra can't demonstrate an ability to sort itself out then some sort of Government-level intervention might be required.
Now, I don't like that sort of thing at all. But remember, it was a Government decision to create Fonterra in the first place.
Of course, the co-operative is 'under new management'. Chairman John Monaghan has barely had time to sit down.
One of the first things I think he should do is clarify the situation around the Chief Executive.
This has been most unsatisfactory since the previous incumbent Theo Spierings announced he would be going early this year, but then didn't and then we didn't hear about a replacement and then we heard that Miles Hurrell had been appointed as an 'interim' Chief Executive and Spierings went.
However, there was no reference to Hurrell being 'interim' in any of the results material released on Thursday. And he certainly didn't act like somebody who was keeping the seat warm for someone else.
Clarify the CEO role
Okay, so Monaghan needs to come out and say pretty quickly 'Hurrell is our guy' and we carry on. It's not a tenable position for an organisation the size of Fonterra to not have a permanent boss. Look, it's not tenable for the bookshop down the road to not have a permanent boss.
Assuming that Fonterra does indeed have a new full-time CEO then he and the new Chairman do certainly need 'cutting some slack' when it comes to putting in place a plan.
Trouble is, they are going to have to get it right quite quickly - and I will state my doubts from the outset about whether a chairman who has already been on the board for 10 years and an executive who's been with Fonterra since the start will necessarily be able to apply the fresh perspective it now badly needs.
This, verbatim, is the three-point action plan outlined by the new management in Thursday's announcement:
1. Taking stock of the business – Fonterra will re-evaluate all investments, major assets and partnerships to ensure they still meet the Co-operative’s needs today. This will involve a thorough analysis of whether they directly support the strategy, are hitting their target return on capital and whether it can scale them up and grow more value over the next two-three years. This will start with a strategic review of the Co-operative’s investment in Beingmate.
2. Getting the basics right – Fonterra has already begun taking action and fixing the businesses that are not performing. The level of financial discipline will be lifted throughout the Co-operative so debt can be reduced and return on capital improved.
3. Ensuring more accurate forecasting – the business will be run on more realistic forecasts with a clear line of sight on potential opportunities as well as the risks. It will also be clear on its assumptions, so farmers and unit holders know exactly where they stand and can make the decisions that are right for them and their businesses.
I have to tell you, I'm not inspired.
The review outlined in point one is obviously essential. But, of course, it is to be hoped that much more detail on that will be forthcoming over the next few weeks and months.
Beingmate is singled out for attention. I think it's absolutely clear that this disastrous foray will be exited in whatever way can be done with some sort of grace as soon as possible. This will be an easy win for the new management.
The revelation (it has to be said, only extracted from the company by the persevering question line of long-time Fonterra follower and critic Rod Oram at the press conference) that Beingmate is no longer the exclusive distributor of Fonterra's Anmum baby formula in China, is a clear enough signal. The Anmum distribution deal was one of the main points - if not the prime one - of the original deal in the first place. Remove Beingmate as the sole distributor and you might as well not be involved with Beingmate at all.
Give them a chance, but...
So, that will be an easy win. But how closely will other investments and partnerships really be examined after that easy win has been declared? Well, we shall have to wait and see.
As for points two and three, 'getting the basics right' and 'ensuring more accurate forecasting' - well, woolly is what I would say at best.
Look, the new management has to be given a chance. But I don't think we can afford to give them too much time.
We really are past the stage now where this business needs to communicate with genuine openness. To provide information - not propaganda (and I'm afraid the 2018 annual review again strikes out on that one) and to show that Fonterra is at last heading in the right direction.
But as I say, people in high places - IE the Government - should not be shy about getting involved if things don't look as if they are significantly improving. Give Fonterra time. But not much.