UPDATE 2-Fonterra says earnings to fall, slashes dividends for investors

Wed Dec 11, 2013 2:35am EST

* Earnings to fall up to 50 percent in 2013/14

* Blames higher input costs, factory constraints

* Slashes dividend, holds farmgate payments steady

* Analysts question mixed co-op model (Recasts, adds investor comment, details)

By Naomi Tajitsu

WELLINGTON, Dec 11 (Reuters) - New Zealand's Fonterra forecast a 50 percent fall in earnings this year, hurt by higher farmgate payments for milk and factory constraints that have held it back from making the most of record dairy prices.

Fonterra, which controls nearly a third of the global dairy trade, said it would slash dividend payments for outside investors by 70 percent, knocking units in its sharetrading fund to their lowest since its launch a year ago.

But in a win for its 10,500 farmer owners, it opted to maintain record high farmgate prices, angering investors and highlighting the risks of a mixed co-op model that is being eyed by other farm bodies, such as Australia's Murray Goulburn.

"Why would anyone want to put money into this company now?," said Darren Sissons, a portfolio manager at Portfolio Management Corp in Toronto, which owns shares in the fund.

"Their ability to raise more capital in the international market is going to suffer," he said.

Fonterra said it expected 2013/14 earnings of NZ$500 million-NZ$600 million ($415 million-$500 million), down from NZ$1.02 billion a year ago.

Global dairy prices have jumped 50 percent this year on buoyant demand for milk powder in countries such as China for use in infant formula and food products.

But Fonterra said increased demand had pushed up farmgate prices, while its milk powder plants have struggled to keep up, forcing it to turn some expensive raw milk into lower-value cheese products.

"We have not been able to lift powder production above the current 70 percent level as we are limited by the nature of Fonterra's existing production facilities," chief executive Theo Spierings said.

Fonterra plans to invest NZ$235 million in a new milk powder plant in New Zealand to increase its powder processing capabilities.

Units in the sharetrading fund fell as much as 10 percent before closing down 5.7 percent at NZ$5.75.

FUND FLAWS

The earnings downgrade caps a torrid year for Fonterra whose reputation was also hurt by a production contamination scare in August, which later proved to be a false alarm.

The co-operative is owned by its farmer suppliers, but turned to outside investment last year to help fund its ambitious expansion plans in China.

Fonterra raised $400 million by offering units in a sharetrading fund to outside investors in exchange for a share of the co-op's dividend stream.

However, the shares lack voting rights, leaving control of the company in the hands of management and farmer shareholders.

A similar model is being eyed by other co-operatives like Australia's largest dairy producer Murray Goulburn, which is planning a partial share float to tap extra capital as it competes in a takeover battle for Warnambool Cheese and Butter Factory Co..

"It's quite clear that the farmers have won out today, they're shareholders, they've got the voting rights," said Con Williams, rural economist at ANZ, noting that many farmers were opposed to keeping dividends steady despite changes in earnings.

However, others noted that farmers would also be hit by the lower dividend, while some of Fonterra's smaller co-operative competitors operating in niche dairy markets were offering higher farmgate prices to their members.

"(Fonterra is) in a no-win position at the moment. Their product mix isn't right for what the world wants, they can't do what they've promised, and everybody is feeling that they haven't received what they've been promised," said Jacqueline Rowarth, professor of agribusiness at Waikato University, who invests in a farm supplier to Fonterra.

"The minute you start selling private shares, you've lost some of that co-operative strength, because you're got the problem of people trying to make money. You're trying to serve two masters," she added.

($1 = 1.2034 New Zealand dollars) (Reporting by Naomi Tajitsu; Editing by Richard Pullin)

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