Fonterra’s purchase of minority assets at Chilean Prolesur is a divorce that had to occur, but it is just the first step in resolving Fonterra’s Chilean situation

Fonterra’s purchase of minority assets at Chilean Prolesur is a divorce that had to occur, but it is just the first step in resolving Fonterra’s Chilean situation

Fonterra’s announcement that it is purchasing the minority shareholding interests in Chilean dairy company Prolesur solves an acrimonious relationship between Fonterra and the Fundación Isabel Aninat. This may prove to be an early step in the rationalisation and eventual divestment of Fonterra’s Chilean operations.   

Fonterra’s Chilean operations are managed under a complex structure. The major asset is the almost wholly-owned Soprole, which in turn owns 70.5 percent of Prolesur. Fonterra also owns additional shares in Prolesur through another structure, giving it a total Prolesur holding of 86.2 percent. 

The key minority shareholder in Prolesur is Fundación Isabel Aninat which has ties to the Catholic Church. The Fundación shareholding has been 13.6 percent. There are additional minority shareholders who hold less than 0.2 percent of Prolesur and they too are now expected to sell.

Most of Fonterra’s Chilean supply of milk is processed through Prolesur into butter, cheese and milk powder. It then passes to Soprole which undertakes the marketing of consumer goods. The problem is that the transfer-pricing between Prolesur and Soprole has led to almost all the profits since 2016 being earned by Soprole rather than Prolesur. That has led to the directors of Fundación Isabel Aninat getting very angry, as they have received minimal dividends from Prolesur.

The dispute between Fonterra and the Fundación has been slowly working its way through the Chilean legal system.  It had the potential to become destructive. Whatever the legal outcome, Fonterra was always going to be the loser in the court of public opinion, and from there through to the market place. It was a problem that Fonterra had to solve.

The simplest solution was to buy out the interests of the Fundación and to pay whatever was necessary to make that happen.

The agreed price of $NZ29.3 million for 13.6 percent of Prolesur suggests an overall Prolesur value of $NZ215 million.   However, the book value of Prolesur in the Prolesur accounts was around $150 million in December 2017, with these being the last published figures. So, on the surface it looks like the Fundación got a good deal.

In fact, it is a win-win for both sides. It was a divorce that needed to happen.

Although the Fundación wanted to get out of the business, it would also have known that it held some strong cards, in that Fonterra needed to get rid of it.

The question now is whether the divorce will help to create a pathway whereby Fonterra can exit Chile.  Under Fonterra’s new strategy of being a marketer of New Zealand milk, rather than a global force in dairying, there is no reason for it to be in Chile.

In recent years, Fonterra has demonstrated very clearly that it does not understand Chile, and it has been seriously out-performed both by local co-operative Colún, which is now the market leader, and also by Nestlé, to whom Fonterra has been losing milk supply.  Fonterra’s overall profits in Chile have been declining each year as it dropped from first position to third position in market share.

The first step could be to bring Soprole and Prolesur together as one business. They both depend on each other and neither is saleable without the other.

Once Fonterra has complete ownership of Prolesur, then the book value of all of Fonterra’s Chilean assets will be around $NZ650 million. Currently, the Chilean assets do not show up anywhere in Fonterra’s accounts because they are not separately listed. Instead, the asset estimate comes from direct analysis of the Soprole plus Prolesur accounts published in Chile. However, the various components all have to be there somewhere, built into the Fonterra’s aggregated assets, liabilities and equity. 

I have previously written about how Fonterra’s Chilean assets are performing poorly. Fonterra must undoubtedly know that reality, although for a long time its directors seemed oblivious to what was happening, with loss of supply and loss of market share. The question is whether or not any Chilean company will now come up with the money to buy them out, and if so, how much money.

My Chilean friends have been telling me that none of the other dairy companies are likely to want to buy Soprole, so it probably needs to be a non-dairy food company that wants to diversify. However, Chile is currently in social and economic turmoil.

It’s almost two months since I flew out of Santiago, and looked across at a city that was burning from multiple fires. I had waited in an overcrowded airport for 24 hours, with aircrews unable to get to the airport because of the widespread rioting and consequent curfews.

The recent Chilean rioting and social upheaval have come as a great shock to the Chilean people who, since the ousting of military dictator Augusto Pinochet, had seen 30 years of peace and economic growth within a democratic framework. In recent years, Chile has had the highest living standards in all of South America.

The poor and lower middle-class people have now rebelled. Democracy by itself is not enough if it does not deal with entrenched inequalities.

In the current climate, finding a buyer has becomes even more difficult. Fonterra may therefore have no option but to hold on in the meantime. 

Right now, there are parallels in Fonterra’s Chilean and Australian operations, with both entities struggling and having been outmuscled by competitors within a difficult operating environment. Whereas elsewhere in the Fonterra business there have been asset revaluations and hence book losses that have been brought to account, there is more red ink yet to show up for both Australia and Chile.

Fonterra has recently reported that across its overall business it is on track for modest ‘normalised profits’ in the current year. However, revaluations are treated as a ‘one-off events’ that are not considered part of ‘normalised profits’. This is why Fonterra could still face a situation this year, just like last year, with an overall loss despite making a normalised profit.

In terms of what is real and what is theoretical, it is the overall profit or loss, and not the normalised profit or loss that is the bottom line.


*Keith Woodford was Professor of Farm Management and Agribusiness at Lincoln University for 15 years through to 2015. He is now Principal Consultant at AgriFood Systems Ltd. Previous article on Fonterra’s challenges can be found at https://keithwoodford.wordpress.com/category/fonterra. You can contact him directly here.

We welcome your help to improve our coverage of this issue. Any examples or experiences to relate? Any links to other news, data or research to shed more light on this? Any insight or views on what might happen next or what should happen next? Any errors to correct?

We welcome your comments below. If you are not already registered, please register to comment.

Remember we welcome robust, respectful and insightful debate. We don't welcome abusive or defamatory comments and will de-register those repeatedly making such comments. Our current comment policy is here.

21 Comments

Comment Filter

Highlight new comments in the last hr(s).

Doesn’t seem to be that NZ outfits are all that good at going global. When in Rome do as the Romans. But that is not at all, that easy. But guess Fonterra at least, now knows that Chile is not quite as bad p, as Venezuela.

Another example of kiwi businesses doing badly on the international stage. Its quite embarrassing for NZ Inc. Investing directly with full ownership gives clarity and control which is obvious in its benefits and Fonterra is right to move in that direction. Forming parnerships is complex and even the biggest global corps fall foul of it and arguably they have superiour leadership talent than anything our cottage industry enterprises could ever possess....

strong parallels with Fletcher's attempt at empire building

It's hard to read that article and not want to shout at the screen, and" for a long time its directors seemed oblivious to what was happening" just makes one want to punch it!

Let's hope they don't get the Xmas cheer beef and lamb just got.

MARKET PRICING UPDATE
We think it is important to keep our farmers up to date with developments in our sector that will impact you and the prices paid for livestock.

Overnight we have seen significant price corrections in China of up to 15% across all ovine and beef categories and we wanted to ensure you are aware of the issue and the steps that Alliance Group is taking to manage the situation.

The corrections in China have the potential to spread to other global markets and we are also experiencing some pressure on US beef. As a responsible cooperative we are adjusting our livestock schedule to reflect the change in market price and further changes may be required over the coming weeks.

Many shareholders will remember that a sudden market correction in 2012 led to a significant loss for the Cooperative and weakened the balance sheet. One of the lessons from that time is to respond quickly to manage the risk to the cooperative and shareholders.

We know that it is unpalatable to significantly reduce livestock prices. In line with our cooperative principles, if we have over adjusted the price for animals supplied by shareholders (new and existing) in the coming week, we will give back the over correction. By way of explanation if we have reduced price by say 10c more than we needed to we will pay back the 10c. We will assess the appropriateness of this response as the situation unfolds.

We hope this is a short term issue and we will keep shareholders informed of any developments.

Warm regards,

David Surveyor
Chief Executi

In the old days that might have been sorted, a la Muldoon, by a devaluation, perhaps. Not sure if this has been occasioned by over supply, or more likely, markets retreating as economies weaken. It is interesting though, in past years meat processors would push blindly on with competing schedules to protect their vital lifeblood, “throughput.” That is excusable at the shoulders of the season if to keep continuity of market supply, particularly chilled product. But across the board throughout the season? Self destructive. Just ends up with more product in storage worth less than the market(s) will yield. NZ’s history is littered with defunct processors who fell wholeheartedly into that basic trap. So as for Alliance today, can’t blame them for taking a reality check, can you.

China, marquess of queensberry rules not.
China buyers walking away from 30% deposits.

REPORTS of Chinese buyers reneging on contracts on beef and other imported proteins have emerged this week, as imported meat prices in the country continue to plummet.

After climbed dramatically over a four-week period from late October, imported beef prices into China have crashed equally alarmingly over the past few weeks.

https://www.beefcentral.com/trade/china-imported-meat-market-in-turmoil-...

This should probably be taken in the context of the trendline which is rising strongly for both beef and lamb until now. When returns are up and farmers are doing very well they have been quiet,

Brazil has increased it's beef herd 10x since the 90's. Interesting outcomes for the world beef trade.

Are there any examples of NZ companies being successful at buying companies in other countries? Seems to me they see us coming. Just seems so predicable that it is doomed to fail. Have modern PC sensibilities blinded them to the perils of these endeavours?

Yes, Mainfreight and Michael Hill ... names that start with M for money.

Believe the latter fell over in the States though.

Looks like Mainfreight bought out its partner in China. Michael Hill appears to only be in Australia and Canada now having closed its American stores. Expanding into Canada and Australia seems a pretty safe move.

Michael Hill reminds me of Ratner's , also jewellers, who when asked "How are you able to sell your products so cheaply?" answered "Because they're total crap!"
Needless to say, a firm of long-standing nearly went bust after that. (Take any MH piece into an independent jewellers and see what 'value' they think it has!)
https://www.youtube.com/watch?v=sKtBkVrqYYk

Interestingly both of them have had varied results. Mhill seems oblivious to the sentiments of the countries it tries to trade in and MF has picked poorly in its joint venture partners, having said that the model MF pursues where its owner drivers shoulder the true cost of the vehicle fleet and all the risk makes MF look a lot better than it really is...

Plenty of examples of other countries companies doing well after buying a NZ company.
Unfortunatly i still recall nz farming systems Urugauy.

One has to be very careful trying to run a business in a country where you are not very familiar with the language and culture, particularly one that has anything but a free and competitive level playing field. They will either learn a game that is pretty foreign to ours or more likely struggle badly. Thinking about it, much the same problems that they probably faced in China. Even Australia is quite different and has a different set of challenges.

I don’t think we should beat ourselves up over Dairying failings.
Consider Peter Beck of Invercargill, started out launching rockets in his parents back yard ( from memory) and is now launching satellites in a joint venture with Lockheed Martin.
And his rockets a have a minimalistic design that makes him the cheapest sun orbit launcher by a big margin.
Search “Rutherford Engine.“

NZ Inc's corporate history offshore is not great read. I remember (got caught up in) the Air NZ/Ansett debarcle which I think led to a govt bailout? Anyhow... our business acumen is not great. We see that in a lot of onshore businesses too. This relates directly to our watered down education system which has been globally naive for decades. After 5 years away in the late 70's early 80's I couldn't quite believe the small mindedness of most New Zealanders upon my return. They thought they knew everything when in fact the reverse was true. Most street wise & successful kiwis have done their time offshore. It toughens you up. And you have to, to survive. You know, there's hundreds of thousands of Kiwis overseas, many doing good things in business & the corporate world. We could do with a few more back here, where it's a bit thin on the ground just now.

Hmmm, can't help wondering if the length of a company's annual report is inversely proportional to its longer term prospects.

Is this an example of a bigger problem? Is it that, in general, one should not let the people who are excellent at detail run the show? You need a strong commander to clarify what needs doing to counter the tendency of excellent staff to make things more and more complex.

Very few businesses seem able to expand without losing the plot. Those that do seem to have a key person who keeps the show on the right road. I'm thinking of Peter Jackson, Bruce Plested, Bob Jones.

The same applies to other spheres, eg the HBO TV series model where they figured out that the original writer of the story must have creative control, not the producer.

As regards Fonterra specifically: political protection in NZ gives it a partial monopoly, which leads to laziness and excess corporate bureaucracy. Abroad, lack of political protection favours their competitors, who eat them.

Last para. Add after bureaucracy, self interest, self reward. Before that though, to weigh up your suggestion regarding the key element of the wise commander, well it resonates, indeed it does. Another way to look at is the simple conception of commonsense. Bob Jones, often has been a great proponent of commonsense. But in terms of the wise commander, I did of course not work with them, but I was fortunate enough to meet, in my time, the Sirs, Fred Allen, Brian Lochore and Terry Mclean. Wise, strong, outstanding and balanced men. Hard to see the equivalent nowadays.