Combining the Two Meat Co-operatives: Alliance and Silver Fern Farms

There is widespread agreement that some form of consolidation in the New Zealand red meat industry is necessary. There is also widespread acceptance that there is a problem with over-capacity in the sheep-meat part of the industry, although this is probably not the case for beef. The challenge is to find pathways to solutions that solve more problems than they create.

I am on record as saying that the opening game that we need to focus on, while working on finding more long-term solutions,  is to get farmers aligned to processors.  But some others are saying that we need to combine the co-operatives right now.   So here I look at some issues that need to be addressed, and what a combined co-operative might look like.

Both the Chair of Silver Fern Farms (Eion Garden) and the Chair of Alliance (Owen Poole) have said that  the co-operatives are holding discussions. Eion Garden emphasised at the Meat Industry Excellence meeting in Christchurch on 17 April that any proposal had to be ‘bankable’.  I interpret that as meaning that not only does it have to be commercially viable, but it will need to get the approval of the relevant banks. The reality is that neither co-operative has a future without the support of their banks.

As of September 2012, Alliance had total assets on their books of $580 million, and liabilities of $285 million.  The equity of $295 million was $12 million less than 5 years earlier. So essentially, Alliance has been drifting backwards over this period. Three years of  profits from 2008 to 2010, albeit declining, were wiped out by losses in 2011 and 2012. That would not be comforting to the banks which held debt finance at September 2012 of $197 million.

When a company makes no long-term profits, questions have to be asked as to the value of their long-term assets that are tied up in generating the income. In the meat industry, the plant and buildings have minimal alternative use, and the land itself may need considerable remediation before it can be otherwise used. The greatest value may well be in the industrial land use and discharge consents that are attached to the land. And even these may have little value.

Accordingly, the banks are likely to look past these fixed asset values and focus on the current assets comprising inventory and trade receivables, but net of payables. In the case of Alliance, current assets minus payables total about $249 million. This is more than the interest bearing debt of $197 million, but not a great deal more.

During the current year, inventory at Alliance should decline from a very high level of  $190 million, and seasonal financing should also decline accordingly. But the worry for any banker will still be that there is only a modest surplus of readily saleable assets (the remaining inventory and receivables) to cover the remaining debt.

With Silver Fern Farms, some of the specifics are different but the overall picture is no better, with some ugly numbers.   The equity as recorded in the books is $349 million (including co-operative supplier shares as assets rather than liabilities), up from $242 million in 2007.  So at least on the surface, Silver Fern Farms has been moving forward. In part this has been due to new equity capital raised.

However, liabilities at Silver Fern Farms has also increased, from $413 million in 2007 to $447 million in 2012. Perhaps more importantly,  current liabilities are  at $428 million whereas current assets are only $375 million. Interest bearing loans are $317 million.  This would be a worry for any banker.

Combining the two co-operatives would be far from simple. To start with, Silver Fern Farms is a hybrid co-operative, with shares  freely tradable. Shareholders do not have to be suppliers; anyone can purchase shares on the so-called ‘Unlisted’ Exchange.  There are approximately 100 million of these shares, currently valued at 61c.  My own view, which I have held since Silver Fern Farms moved to this hybrid structure some years back, is that although there was a clear logic to what was done, it made any potential amalgamation with Alliance much more challenging.

Some may even challenge whether it is still meaningful to consider Silver Fern Farms a co-operative. However, it does meet the technical definition, with most of the supply business being with members, and governance still in the control of farmer-appointed directors.

Assuming that the two co-operatives did agree to combine, the combined entity would initially have assets (as at September 2012 book figures) of $1376 million, liabilities of $732 million and equity of $644 million.  By balance date 31 September 2013 both assets and liabilities could be expected to decline somewhat due to lower inventories and also lower associated working capital.

Bringing these two co-operatives together would require revaluation of all assets. Given the over-capacity, it is reasonable to assume that some fixed assets would decline in value and hence the liabilities (mainly debt) to equity ratio would increase to perhaps 2:1 or higher.

The challenge with the above is that bankers are going to demand more equity. A co-operative as such has limited options, and neither are such funds readily available from external investors for a troubled and declining industry such as sheep processing.

So what is the conclusion? Unfortunately the conclusion is something that many of us have known for a long time: there are no easy solutions for the New Zealand sheep industry. Such problems are not unusual for industries that are getting smaller and that is the sad reality of the sheep industry.

However, the sheep industry is not going to go away. It will remain the favoured farming system on land where dairy is not economic. On those land classes it can be profitable. But it will be a smaller industry than in the past, and there is more pain to be borne, particularly in the processing segment of the industry.

In the meantime, I will keep promoting the notion that the sheep industry, as a first step, has to get farmers aligned to processors, and stop the Sunday night spot pricing, that leads to so many of the bad behaviours in this industry.  But that will only be a first step towards long-term rationalisation and some consolidation.

Keith Woodford
22 April 2013

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About Keith Woodford

Keith Woodford is an independent consultant, based in New Zealand, who works internationally on agri-food systems and rural development projects. He holds honorary positions as Professor of Agri-Food Systems at Lincoln University, New Zealand, and as Senior Research Fellow at the Contemporary China Research Centre at Victoria University, Wellington.
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3 Responses to Combining the Two Meat Co-operatives: Alliance and Silver Fern Farms

  1. Richard says:

    For the majority of your blog you refer to the red meat industry, but then change to sheep meat. My understanding is that in reality the New Zealand Dairy herd is actually the New Zealand beef herd, Yet cull cows and bobby calves are an insignificant part of a dairy farmers revenue and therefore the Dairy farmer is ambivalent. How can the New Zealand Red meat industry ever “cure it’s woes” when such a significant contributor in the supply chain is ignored?

  2. Keith Woodford says:

    The supply chain for beef from dairy is relatively simple, largely going for hamburgers and similar in bulk form. There is another value chain for ‘beef from beef animals’ with different final markets and that too is not causing great grief. It is the sheep industry where there is over capacity and where the losses are being made. It is also primarily the sheep industry where the ‘Sunday night auction’ occurs. If consolidaton occurs, there will undoubtedly be implications for beef as well as sheep, given the common ownership, but it is some of the sheep chains and not the beef chains which will need to close.
    KeithW

  3. Dave Stanton says:

    Quite agree Keith.
    Looking ahead we’ve seen huge demand from China for lamb now exceeding the UK to be our biggest market. “According to Beef + Lamb New Zealand Ltd data, by 2012-13 China had become New Zealand’s biggest global export market by volume for lamb. And in terms of total value, China has jumped from 10th in 2005-06 to second overall in 2012-13 at NZ$343 million – just below the established top-earning British market, valued at NZ$504 million.
    “http://asianz.org.nz/newsroom/insight/china-%E2%80%9Cmassive-opportunity%E2%80%9D-red-meat-exporters

    Season to date exports to China are now up 32% or an additional 10,000t. China predominantly imports lower valued frozen cuts from NZ, but the variety of cuts it’s willing to take on is expanding. NZ exporters have been able to offload surplus frozen legs and shoulders which would have traditionally headed to the EU. Other regions that have experienced lamb export growth this season are the Middle East and Africa, up 25% and 27% respectively.
    http://www.ruralnewsgroup.co.nz/rural-news/read-the-latest-market-data/lamb-updates-%7C-nz-exports-more-lamb-to-china .

    Chinese Lamb demand up 32% June year on year.

    Everyone moans about lamb but it’s Beef that has seriously under performed. We are getting the same prices as the year we first started farming 20 years ago 1993/94.

    But this year a Big demand for dairy heifer finishing for Live export to China.
    These Heifers are going to directly displace Beef and unlike dairy will be stock units not processed through the Meat processing cooperatives. Farmers don’t need to borrow money for capital Beef stock and are guaranteed returns so out with Beef and in with Grazing Dairy Heifers and wintering Dairy cows.
    Expect a sell off of capital Beef stock, a big drop in Beef farming and processing throughput and Beef chain over capacity.

    I’m convinced that the way ahead is for Alliance AFC to buy up Blue Sky and as many SFF Ordinary shares as possible then via a Special general meeting Combine the two Coops.

    They can then mount a aggressive assault on AFFCo’s supply till the company falls over.

    You either “Join em”
    or “Beat em then Join em”

    Dave Stanton (Ex Lincoln Uni )
    A Farmer for better meat marketing
    Wellspring Farm Geraldine

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