By Keith Woodford*
Shares in The a2 Milk Company (coded as ATM on the NZX stock exchange) have increased from 48.5 cents on 29 May to 75 cents at 3 July. The market capitalisation has risen from $330 million to $495 million. Where the shares will go in the next few weeks is a journey into the unknown.
What is known is that some of the international big boys have been putting together a syndicate to purchase ATM (also listed jointly on the Australian exchange as A2M). The publicly announced parties are America’s Dean Foods and Australia’s Freedom Foods. But in the background are Australia’s Perich family, Australia’s Moxey family, and China’s New Hope agri-food conglomerate. And hovering nearby is Richard Liu from the rapidly growing Chinese online marketer JD.com.
So far there is no formal buy-out bid, and there could be multiple twists and turns. But this is a team that looks serious!
First of all, I need to declare my own interests. I have been following the A2 saga for more than 10 years and I have written a book on the scientific and political issues. I also write on the topic at my own website (https://keithwoodford.wordpress.com/category/a1-and-a2-milk/). In 2014, I co-authored two research publications in international science journals, and I remain engaged in the science, working with overseas teams.
Although I have consulted for ATM in relation to the science (last in 2013) and still communicate with them regularly on these matters, I have no special knowledge as to current commercial events. I rely on what is in the public arena. But having been involved in the A2 saga for more than 10 years, I have a background that can be helpful in putting the jigsaw pieces together.
For a long time, I have been confident that all dairy herds will eventually have to be converted to the A2-type. In essence, that means milk that is free from A1 beta-casein, which is the source of the opioid peptide beta-casomorphin -7 (BCM-7). This BCM-7 is a nasty little devil.
This BCM-7 opioid peptide is only released on digestion of A1 cow milk. Goat milk, sheep milk and human milk are all of the A2 type.
So what is the background to this syndicate wanting to buy ATM?
First of all there is Freedom Foods. They are the leading Australian company for foods free of gluten. nuts, and other allergens. Although Freedom Foods is a public company, with market capitalisation on 3 July 2015 of AUD 464 million), the company is effectively controlled by the Perich family which holds the majority of shares. Freedom Foods already holds a 17.8% share in ATM and the Perich family holds another 1.3% in ATM.
The Perichs are a multi-generation business family from Western Sydney with extensive interests in urban property and dairy as well as Freedom Foods. In 2014 they were listed by BRW as having a wealth of AUD $1.02 billion. That may well be conservative. They are major suppliers of A2 milk to ATM.
Dean Foods is America’s largest marketer of fresh milk, with a 35% national market share. Despite its size, Dean Foods has been struggling in recent years and needs some differentiated products. It will have noticed the release of ‘a2 Milk’ in Southern California and will have decided it needs to get a stake in taking the business America-wide.
The Moxeys are currently producers of 50 million litres of milk per annum, which probably makes them Australia’s largest dairy farmers. Most of their milk currently goes to ATM. In recent months they have been re-aligning their business interests in association with the Perich family, Freedom Foods and China’s New Hope. Their new entity called Australian Fresh Milk Holdings (AFMH) was formally announced on 3 July. This will allow a major expansion of dairy operations, with the milk going to Freedom Foods for processing and then for onward sale in China and South East Asia through New Hope.
New Hope is a huge Chinese agri-food conglomerate that has business operations that extend throughout South East Asia. Some years back I visited their headquarters in Chengdu, the capital of China’s Sichuan Province. I gained the impression then that New Hope has no experience in failing and they intend to keep things that way.
JD.com is a burgeoning Chinese online marketer of food and other products with a market capitalisation on Nasdaq of US$46 billion. The owner is Richard Liu whose personal wealth, according to the Sydney Morning Herald is about US$9.4 billion. Liu recently announced his intention to set up a one-stop ‘Australia Mall’ for online selling of Australian foods, including a2 Milk. Liu already has business relationships with both New Hope and ATM.
The combination of all of these stakeholders creates huge financial and market power. In essence, it allows ATM to go global. My assumption is that in the process it will de-list from the NZX.
The price which the shares might reach in a takeover is pure speculation. In mid-2014, UBS undertook an analysis of ATM and suggested in a takeover bid the share price could rise to about $1.41. This was based on a company value of NZ $930 million. At the time, the market largely ignored this assessment.
If the bid fails, then a complicating factor is that ATM relies on the Moxey and Perich dairy herds for much of its Australian supply of milk. It is unknown as to the details of their current supply contracts with ATM, and whether the new AFMH entity will be bound by such contracts. Without this milk supply, the Australian arm of ATM is in big trouble.
There is a huge irony in all of this. It was in New Zealand that A2 milk started, yet ATM now has a negligible presence in this country. Unlike Australia, where a2 Milk (i.e. the ATM brand) is the leading supermarket brand of milk, it is only available in a few New Zealand supermarkets and even then only as full cream milk.
Twenty years have passed since Professor Bob Elliott’s initial work at Auckland University showing the relevance of BCM-7. This was then carried forward by scientist-entrepreneur Corran McLachlan and financial mastermind Howard Paterson. If it were not for the tragic deaths of McLachlan and Paterson within weeks of each other back in 2003, then the history of New Zealand’s dairy industry would tell a different story.
I recall a discussion with Fonterra director about seven years ago, when that director bragged to me that Fonterra could ‘take out’ A2 Milk (as it was then titled) whenever they wished. It was, he said, no more than an annoying little flea.
As of 2015, the reality is that Fonterra could no longer purchase ATM even if it so wished. Quite simply, Fonterra does not have the financial wherewithal to join a bidding war.
However, Fonterra does not need to purchase ATM. All along, Fonterra has held a 50% share in one of the crucial patents that would have allowed it to make the shift. That particular patent runs out later this year, but Fonterra could still make the shift thereafter, without legal hindrance.
In 2008, Westland Dairy Co-operative, led by CEO Scott Eglinton, did make made the call to go A2. However, Eglinton was another to suffer a tragic death, and in 2009 under a new CEO the policy was reversed.
The downside when Fonterra, Westland and other New Zealand do eventually make the shift to A2 is that it will be without any of the early mover advantages. And when it does happen, the transition will be much slower than for the big American herds and even the big Chinese herds.
The reason for the slower transition in New Zealand will be that most farmers only have one herd. In contrast, the big overseas production companies have sufficient scale to immediately separate off their A2 animals into A2 herds, and then rapidly transition the remaining herds using female sex-selected A2 semen and high replacement rates. Oh dear!
Keith Woodford is Honorary Professor of Agri-Food Systems at Lincoln University. He combines this with project and consulting work in agri-food systems. This a regular column here. His archived writings are available at http://keithwoodford.wordpress.com