Historically prices have risen and fallen on a regular
basis. This downtown does not appear to be part of a normal cycle. The
world is awash with dairy products, subsidies to support farmers in
other countries are being increased which will artificially support continuing
high level production, and there are major market dynamics at play especially with worldwide increasing production, Russian markets being
boycotted and shifts in Chinese demand.
Any reasonable analysis would therefore assume no
significant price rises any time soon. Given the extremely low base
prices have fallen to, clearly below the cost of production, that is a
real worry for all dairy farmers and particularly those that are
financing significant debt.
It must also be of major concern to banks. The determination of banks to support farmers through this crisis will be tempered by the prospect of prices remaining low into the foreseeable future. The banks will be asking themselves where the trigger point is farm by farm in terms of when they reach the limit of debt funding, which will be before the possibility of the farming business losing the ability to reduce and repay debt no matter what. If the price cycle was predictable and anticipated to be short that calculation would be much easier. In this environment assessing the point of no return is complex and fraught.
So we can expect significant fallout in the dairy
farming sector. That, in turn, will flow through the rest of the South
Island economy.
Dairy farming represents a significant, and until
recently, growing proportion of the South Island's rural economy. We
are good at producing milk at reasonable cost and we all know that
there have been significant farm conversions to dairy, right across the South
Island. Given that investment in this sector in the South Island is
relatively recent there is a lot of bank debt associated with farm
conversions and set-ups.
Smaller rural centres are already feeling the pinch. Larger centres, and indeed our South Island cities can expect to suffer negative impacts to varying degrees.
For example, Christchurch is still dependent on what
happens in the rural sector to a significant degree. Christchurch
is buffered by the rebuild spend but we do have many businesses
right across most sectors that rely on rural spend
Regretfully there is a flow-on effect from the
downturn. An unfortunate example of this is Fonterra’s determination to extend
its payment to creditors out to 90 days. That in turn puts serious cashflow constraints on suppliers who in turn will be forced to delay
payments to their debtors and creditors and so it spills down through the
supply chain.
Dairy farmers closing their cheque books has the same sort
of impact.
This all means that businesses need to be strategic in the context of this crisis, they need to be diligent with respect to creditor/cash flow management and they need to ensure they protect their quality business relationships.
Long term there is light at the end of the tunnel, given the increasing demand for dairy products worldwide and our ability to produce high quality products cost effectively, particularly in the added value area.
Regretfully this time around it is looking like an awfully long tunnel.
