Highlights

New Zealand milk supply is continuing to slow as cow numbers decline and inputs are reduced in response to the lowest domestic milk prices in more than a decade. The 2017 milk supply forecast of 21.17 million metric tons is 2% below the previous year and over 3% below peak production of 2014 before the current milk price downturn began. However, export volumes remain quite resilient as more milk is channeled into higher margin products, such as ultra-high temperature (UHT) liquid milk exports. In 2017, total dairy exports are forecast at 3 million metric tons, 1.3% below the total for 2016.

Executive Summary

The face of the New Zealand dairy sector is changing: from a bulk commodities based industry to a producer of a wide range of consumer products, food service ingredients, and traditional commodities.

Ultra-high temperature (UHT) treated liquid milk and cream, and infant milk formula (IMF) currently account for about 11% of the total volume of exports and are high value products less affected by commodity price volatility. Given current trends, it is likely that these high value dairy exports could comprise close to 30% of the total in five years time.

However, farmers have still been battling away at the bottom of the milk price cycle in 2016. Milk production for 2016 is forecast to be down, now estimated at 21.3 million metric tons (MMT), 1% drop from 2015. This is a result of less cows and slashed supplementary feed inputs, cushioned to some extent by higher than normal pasture growth in the first half of 2016. There is some light at the end of the tunnel. Dairy product prices at auction jumped 33% during the third quarter (Q3) of 2016. This has been enough for Fonterra (the largest dairy cooperative responsible for processing 84% of all milk) to boost its forecast milk price for the New Zealand farming financial year (FY) 2017 ( June to May)1 by 22% over FY2016. That will probably not be enough to stimulate a milk supply increase. Milk production for 2017 is forecast at 21.2 MMT, 1% below 2016.

Total dairy production in 2016 is forecast at 3.03 MMT, 1% down on 2015. Of that, whole milk powder (WMP) comprises 1.33 MMT, 4% down; skim milk powder (SMP) at 400,000 MT down 2%; butter and anhydrous milk fat (AMF) stable at 600,000 MT; and cheese up 1% at 360,000 MT.

For 2017, the milk supply reduction and a small shift in emphasis to the more concentrated products means total product production is forecast at 2.99 MMT; down 1% from 2016. Year-on-year over 2016: WMP is forecast marginally down at 1.32 MMT; SMP will be down 5% at 380,000 MT; butter and AMF 590,000 MT will be down 2%; and cheese will hold steady at 360,000 MT.

Exports have been surprisingly strong despite the reduced milk supply. Total exports in 2016, including liquid milk (forecast up an impressive 55%), are forecast to be up 4% at 3.27 MMT as stocks are reduced by approximately 44,000 MT to achieve the volume forecast. WMP at 1.32 MMT is forecast to be 5% down but SMP, butter/AMF, and cheese are all forecast up between 4% to 6%.

Looking forward to 2017 total exports at 3.24 MMT are forecast to drop back 1%. WMP at 1.31 MMT down just 1%, SMP down 11% at 385,000 MT, and cheese back 6% at 323,000 MT. On a positive note liquid milk is forecast up again to 300,000 MT (13%); whey products and IMF up 11% and 9% respectively

Milk Supply

2016

By the end of September the New Zealand dairy herd is through calving and spring is under way. However fewer cows are being milked and the grey overcast days and cooler than average temperatures are taking their toll on 2016 third quarter (Q3) milk production. Now total 2016 production is estimated at 21.3 MMT of milk. This is 1.3% below 2015 but 1.9% better than had been forecast last April based on the following dynamics:

  • Sufficient rainfall generally nationwide from February through April 2016 boosted pasture production above expectations and resulted in better milk production for the first half of the year.
  • Based on the latest industry information, cow numbers in the FY2016 (June to May) production season had not been reduced as much as had been previously estimated. The actual numbers of cows in milk for 2015 was 5.06 million head, 1% greater than previously estimated. For 2016, Post is now estimating the number at 4.95 million head versus 4.93 million. This is still a 2% reduction from 2015.
  • Owing to the low milk price, farmers are using significantly less supplementary feed: Palm Kernel Extract use (imported from Indonesia and Malaysia) is down 36%; maize (corn) silage use is down 12%; and grain imports are down 27%. September and October pasture production in the North Island has a lower dry matter proportion than normal because of the cool overcast days, which is constraining per cow milk production.
  • September and October pasture production in the North Island has a lower dry matter proportion than normal because of the cool overcast days, which is constraining per cow milk production.

2017

Cow numbers are expected to stabilize at 4.9 million head (1% down from 2016). Now that the milk price signals are more positive it is forecast that 2017 will be the bottom of the trough in terms of production. At 21.2 MMT of milk, production will be just 0.6% below 2016. The factors at play are:

  • Cow numbers will be an estimated 50,000 head less than in 2016, which is typically negative for milk production. Farmers, however, will have culled their worst performers and will now be able to feed the resulting smaller herds better, as long as the total feed supply (pasture plus supplements) supply remains the same.
  • Most farmers have endured one to two years of financial losses primarily funded by increased bank debt. As profitability returns, repaying some of this debt will take priority over investments to increase production (i.e. extra cows or significantly increased supplementary feeding).
  • Farmers will be concentrating on pasture management to maximize pasture growth and utilization. Increased use of nitrogen fertilizers to boost growth is one key aspect of this strategy.

However some extra supplement may be used if the milk price signals indicate a margin over cost and if widespread drought conditions significantly reduce pasture production in Q1 and Q2 of 2017.

Dairy Farm Profitability

The New Zealand farming financial year (FY) for 2016 (June 1, 2015 to May 31, 2016) for dairy farmers is proving to have been the worst financial outcome since FY2003. On average it is estimated farmers will have an overall financial loss equivalent to NZ$1.31 (USD0.96) per kilogram (kg) of milk solids (MS) produced. The average herd now produces 157,000 kgs of MS per year, so the average loss would in the vicinity of NZ$196,000 (USD 143,000).

However there is now light at the end of the tunnel. The Global Dairy Trade (GDT) auction price index has risen 33% during Q3 2016. This has been enough to get the Fonterra milk price forecast for the FY2017 up 22% over FY2016. This will have the effect of pushing most farms back to a small profit or break-even situation.

Longer Term Milk Production Outlook

Over the next two to five years milk production growth should maintain a trend of between 1% and 2% per annum increases. This is a level that could be sustained by the existing cow numbers and land area based on productivity increases resulting from: ongoing genetic gain; increased on-farm pasture/feed production and utilization; on-going efficiencies being introduced gradually over the whole sector. It is likely to take two to three years before national milk production gets back to the levels achieved back in 2014. The headwinds pushing back at dairy expansion are:

  • Environmental limits on phosphate, nitrate, and sediment leaching into waterways and aquifers are being implemented and will get progressively more restrictive over the next five years. For example, in the Waikato area (approximately 25% of New Zealand's milk supply) new rules just coming into effect could effectively put a stop to land use conversions to dairy. The Waikato region changes are particularly severe, but all territorial authorities are bringing in limits on discharges to water.
  • Urban and horticulture encroachment. In the North Island, land-use change to housing/industrial use and for intensive horticulture away from dairying is a factor. In the medium term, it is likely that this loss of land will only just be balanced by dairy conversions in the South Island.
  • At the moment there is not the confidence in the sector that the future financial returns for dairy would make conversions of sheep/beef or arable properties to dairy feasible.

There are positives that give some cause for optimism:

  • Farmers have restructured their businesses over the last two years during the downturn to achieve lower costs. This means they will return to profitability quicker as the milk price rises.
  • The sector continues to innovate at all levels of the production chain. Over the longer term the sector will develop solutions to the environmental issues and continue to increase productivity.

Dairy, Milk, Fluid

Dairy, Milk, Fluid

(1000HD, 1000MT)

2015

2016

2017

Market Year Begin: Jan

Market Year Begin: Jan

Market Year Begin: Jan

2015

2016

2017

New Zealand

Official

New Post

Official

New Post

Official

New Post

Cows In Milk

5003

5056

4928

4950

4900

Cows Milk Production

21582

21582

21150

21308

21173

Other Milk Production

0

0

0

0

0

Total Production

21582

21582

21150

21308

21173

Other Imports

2

2

2

2

2

Total Imports

2

2

2

2

2

Total Supply

21584

21584

21152

21310

21175

Other Exports

171

171

210

265

300

Total Exports

171

171

210

265

300

Fluid Use Dom. Consum.

497

497

497

497

500

Factory Use Consum.

20866

20866

20395

20498

20325

Feed Use Dom. Consum.

50

50

50

50

50

Total Dom. Consumption

21413

21413

20942

21045

20875

Total Distribution

21584

21584

21152

21310

21175

CY Imp. from U.S.

0

0

0

0

0

CY. Exp. to U.S.

0

0

0

0

0

TS=TD

0

0

0

0

0

Dairy Production at a Glance

General Overview

The dairy industry is hoping it has now seen the bottom of this dairy price cycle during Q2 2016, and the upturn in dairy markets since June 2016 is the sign of a more sustained trend to higher prices than the October 2015 price upswing. The long-term three year dairy price cycle seems to be persisting. However the peak in this new cycle is likely to be a lot lower than the previous three. The peak in the last cycle was extremely high, driven by the extraordinary demand from China (a combination of rapidly growing consumer demand, especially for perceived higher quality imported dairy products, and a severe domestic milk production decline during 2013). This dynamic is no longer present, and the lack of Russian demand--coupled with a surge in milk supply from the E.U. following the removal of production quotas--will dampen down potential price increases.

With a lower peak milk supply in 2016 than either in 2014 or 2015 and additional processing capacity now commissioned, the processors have better flexibility over the product mix during the peak production months of October through December. Based on returns per ton of milk comparisons during 2016, there is still a premium above WMP for the product streams where the fat component is separated off. So casein and AMF along with SMP and AMF are favored. In addition, cheese prices have continued to trade at over a US$500/MT premium to WMP, favoring the manufacturing of cheese in milk powder driers. In addition, processing costs for WMP are materially lower than the other product streams.

Looking forward to 2017--if general price increases observed in Q3 2016 persist into 2017--then the pricing relativities will favor a continuation of the present product mix. WMP production will be stable; fat component separation will again be emphasized; along with cheese production. It is now becoming increasingly evident that the New Zealand dairy processing sector is moving rapidly to diversify away from the traditional commodity products of bulk powders, fats, and cheddar cheeses. While New Zealand has done very well from the commodity trade (especially with WMP) from early in the 2000's through to 2014, it is becoming critical that a significant quantity of the milk supply is put into higher value specialized ingredients or consumer ready products. While it is difficult to detect how well this change is going just by analyzing export data, it is hard to miss the fact that most of the new processing capacity built over the last eighteen months has been for the manufacture of IMF or nutritional powders; food service ingredients; and UHT liquid milks and creams.

With the addition of Chinese investment into two new nutritional driers, plus investments by Westland Dairy Cooperative and Synlait Dairy Company, IMF/nutritional powder production capacity has more than doubled if not tripled. Potential capacity is now probably close to 200,000 MT per annum.

Whole Milk Powder (WMP)

For 2016 WMP, production is now estimated at 1.33 MMT, which is 4% below 2015 and 2% below the previous revision. Because close to 100% of WMP manufacture is exported, exports are a good proxy for production plus/minus inventory changes. This revised estimate is based on: year-to-date export results; unfavorable relative prices for WMP; and the declining milk supply.

For 2017, WMP production is forecast to be relatively stable at 1.32 MMT just over 0.4% down on 2016. A slight decline in milk production, and similar price relativities for the other product streams persisting into the first half of 2017, are driving Post's forecast for WMP production. However industry sources suggest that global tradable surpluses of milk may well reduce in 2017, which should reduce supplies of WMP later in the year. This would support firmer prices and in turn make WMP manufacture relatively better value then.

Interestingly at the peak of WMP prices in 2014, WMP accounted for 48% of total production and then 45% in 2015. For 2016 and 2017, the proportion is estimated at 44%, which is only slightly lower than peak levels. The manufacturing cost for New Zealand WMP is usually lower than other dairy products and it is highly competitive on global markets. Consequently, WMP remains the cornerstone product for the New Zealand dairy industry and will likely continue to be for at least the next five years.

Dairy, Dry. Whole Milk Powder

2015

2016

2017

Market Year Begin: Jan

Market Year Begin: Jan

Market Year Begin: Jan

2015

2016

2017

New Zealand

Official

New Post

Official

New Post

Official

New Post

Beginning Stocks

180

180

179

169

165

Production

1,39

1,38

1,37

1,325

1,32

Other Imports

7

7

5

5

5

Total Imports

7

7

5

5

5

Total Supply

1,577

1,567

1,554

1,499

1,49

Other Exports

1,38

1,38

1,36

1,315

1,305

Total Exports

1,38

1,38

1,36

1,315

1,305

Human Dom. Cons.

3

3

4

4

4

Other Use, Losses

15

15

15

15

15

Total Dom. Cons.

18

18

19

19

19

Total Use

1,398

1,398

1,379

1,334

1,324

Ending Stocks

179

169

175

165

171

Total Distribution

1,577

1,567

1,554

1,499

1,495

CY Imp. from U.S.

0

0

0

0

0

CY. Exp. to U.S.

0

3

0

2

2

TS=TD

0

0

0

0

5


Cheese

Judging by the pace of exports so far in 2016, cheese production is now estimated at 360,000 MT for 2016, up 5,000 MT or 1.4%. In order to maintain this pace of exporting, Post forecasts that inventories will be drawn down by 18% by the end of the year. The margin GDT cheese prices have enjoyed over GDT WMP has been consistently greater than USD500 during 2016, the level at which rule of thumb suggests cheese manufacture is more profitable than WMP production. However, the most lucrative markets for New Zealand are limited either by quota restrictions or high entry tariffs.

For 2017, production is forecast to remain at 360,000 MT leading to a build-up of stocks. Cheese production is continuing to diversify to fresh cheese products such as cream and cottage cheeses; fast manufacture mozzarella; and added value to natural cheeses by producing slice on slice or ready grated formats.

Cheese

2015

2016

2017

Market Year Begin: Jan

Market Year Begin: Jan

Market Year Begin: Jan

2015

2016

2017

New Zealand

Official

New Post

Official

New Post

Official

New Post

Beginning Stocks

64

64

60

65

53

Production

355

355

350

360

360

Other Imports

8

8

8

8

8

Total Imports

8

8

8

8

8

Total Supply

427

427

418

433

421

Other Exports

327

327

330

345

323

Total Exports

327

327

330

345

323

Human Dom. Cons.

40

35

40

35

35

Other Use, Losses

0

0

0

0

0

Total Dom. Cons.

40

35

40

35

35

Total Use

367

362

370

380

358

Ending Stocks

60

65

48

53

63

Total Distribution

427

427

418

433

421

CY Imp. from U.S.

0

1

0

1

1

CY. Exp. to U.S.

0

17

0

19

18

TS=TD

0

0

0

0

0

Skim Milk Powder (SMP)

In 2016, SMP production is likely to stabilize at 400,000 MT, 2% below a 2015 figure of 410,000 MT. With the EU sitting on a large inventory of SMP and international prices at cyclical lows for most of 2016, it seems paradoxical that New Zealand would be producing more SMP. However, during 2016 the SMP/AMF product stream has been relatively more attractive than WMP, and the pace of SMP exporting during 2016 suggests processors have favored that product mix.

As milk production declines going into 2017, Post forecasts that SMP production will follow suit and record a 5% reduction to 380,000 MT. While the SMP/AMF product stream has shown better value during 2016, it is expected that WMP prices will recover more strongly in 2017 and WMP will be produced in preference to the SMP/AMF stream

Milk, notfat dry

2015

2016

2017

Market Year Begin: Jan

Market Year Begin: Jan

Market Year Begin: Jan

2015

2016

2017

New Zealand

Official

New Post

Official

New Post

Official

New Post

Beginning Stocks

113

113

90

110

78

Production

390

410

380

400

380

Other Imports

5

5

4

5

5

Total Imports

5

5

4

5

5

Total Supply

508

528

474

515

463

Other Exports

411

411

415

430

385

Total Exports

411

411

415

430

385

Human Dom. Cons.

7

7

7

7

7

Other Use, Losses

0

0

0

0

0

Total Dom. Cons.

7

7

7

7

7

Total Use

418

418

422

437

392

Ending Stocks

90

110

52

78

71

Total Distribution

508

528

474

515

463

CY Imp. from U.S.

0

0

0

0

0

CY. Exp. to U.S.

0

0

0

0

0

TS=TD

0

0

0

0

0

Butter and Anhydrous Milk fat (AMF)

For 2016, production of butter and AMF is now estimated at 600,000 MT (butter equivalents), 5% up on the previous revision. International AMF prices have strengthened relative to WMP and SMP during 2016. It is the fat side of the SMP/AMF or Casein/AMF product streams, which is giving these streams the comparative value advantage over WMP. Year-to-date exports are 6% ahead of the prior year comparable period. Exports usually take off more than 90% of production, so the rate of export growth is a reasonable guide to production trend. Butter and AMF production in 2015 has been revised up by 4% to 600,000 MT to account for an estimated increase in inventory.

Looking ahead to 2017, butter and AMF production is forecast at 590,000 MT, down 1.7% generally in line with the milk production reduction.

Butter

2015

2016

2017

Market Year Begin: Jan

Market Year Begin: Jan

Market Year Begin: Jan

2015

2016

2017

New Zealand

Official

New Post

Official

New Post

Official

New Post

Beginning Stocks

57

57

63

86

90

Production

575

600

570

600

590

Other Imports

1

1

1

1

1

Total Imports

1

1

1

1

1

Total Supply

633

658

634

687

681

Other Exports

548

548

550

570

575

Total Exports

548

548

550

570

575

Domestic Cons.

22

24

22

27

27

Total Use

570

572

572

597

602

Ending Stocks

63

86

62

90

79

Total Distribution

633

658

634

687

681

CY Imp. from U.S.

0

0

0

0

0

CY. Exp. to U.S.

0

20

0

15

17

TS=TD

0

0

0

0

0


General Comments on Exports

In general, because domestic consumption is such a small proportion of production (only 3% to 4%) exports follow the same trends as production. This is only complicated in a minor way by inventory changes.

The unprecedented surge in exports to China from mid-2013 through into 2014 is now looking like a one-off occurrence. While demand by Chinese consumers is expanding, it was the sudden deep drop in China's domestic milk supply and preference, if possible, for imported dairy products, which drove the unheralded spike in demand for imports during mid-2013 through into 2014.

Whole Milk Powder

Exports of WMP in 2016 are now forecast to be 1.32 MMT, 5% less than 2015 and a 2% downward revision from the last forecast. This is based on reduced production volumes led by the reduced price competitiveness relative to the other product streams and reduced milk supply. Post is forecasting WMP exports to bottom out in 2017 at 1.31 MMT less than a 1% reduction, but for all intents and purposes stable against 2016.

Cheese

Based on the pace of cheese exports to date, the volume exported in 2016 is now estimated at 345,000 MT and will surpass the 2015 total by 6%. For 2017, it is unlikely the previous year's export volume will be matched, and exports will reduce by 6% to be 323,000 MT. Inventories are likely to be built back up again to maintain maturation times.

While the natural cheddar cheese category volumes are up 7.6% year-to-date, some of this category is now being further processed to slice-on-slice or grated offerings for food service, especially in Asia to add value. The fresh cheese category, which includes the soft cream, cottage cheeses, and mozzarella, is showing high volume growth at 17.6% ahead for the year-to-date. The advantage of this category is the quick manufacture time needed; no significant maturation time; and the relatively better prices being achieved (13% ahead of cheddar). The majority of the volume in the fresh category is going into food service sales.

Exports to Japan consist mainly of natural cheddar cheese for industrial processing. Japanese importers have historically paid a premium above prevailing world prices to secure supply and ensure quality and product safety. This market has no tolerance for quality defects. Exports into Australia are mainly consumer cheese packs. For China, natural cheddar for industrial processing and fresh cheese for food service are the leading categories. Indonesia buys cheese for industrial processing and consumer ready packs. Other markets are split between consumer, food service and natural cheese for industrial processing categories. The growth markets are: China, Malaysia, Indonesia, and Philippines.

Skim Milk Powder (SMP)

SMP exports in 2016 are now forecast at 430,000 MT, which is a complete turnaround compared to the view on SMP exports six months ago. This revision is 13% greater than the previous estimate and is based on the pace of exports for the year-to-date. This level of exports seems more dependent on the relative strength of pricing for fat products, the other side of the SMP product stream, than the world prices for SMP. It is unlikely that this situation will continue into 2017 based on the assumption that WMP prices will rise relative to SMP prices. Further, given that the milk supply is expected to be reduced, Post forecasts SMP exports will be lowered to 385,000 MT (-10.5%) in 2017.

Butter and Anhydrous Milkfat (AMF) Exports

Based on the favorable market outlook and the strength of the year-to-date exports for butter and especially AMF, exports in 2016 are estimated to total 570,000 MT (butter equivalents), which will be 4% greater than 2015. It is envisaged the favorable market conditions will persist into 2017 and fat exports will reach 575,000 MT (up 1%).

Other Products

Casein

The casein/AMF product stream has been relatively higher priced than WMP in the recent past, and during 2015 casein exports were boosted to 109,000 MT -- well above previous years when 85,000 MT was the norm. However, there is a limited market for casein. While the relative pricing differential remains, the 2016 year-to-date export volume is 1,300 MT behind 2015. For the whole of 2016, Post forecasts exports will be 100,000 MT, 8% down year-on-year. For 2017, it is envisaged there will be a further reduction of 5% to 95,000 MT as the milk supply is reduced and prices favor WMP production.

Liquid Milk

The export of UHT liquid milk and creams is becoming a significant diversification for many of the New Zealand dairy processors. While only 1.3% of the milk supply is being used, the volumes of exports forecast in 2016 at 265,000 MT of liquid milk are close to double the total exported only two years ago in 2014. The processing capacity now being commissioned and the relative profitability suggest that this increasing trend will continue. In 2017, Post forecasts that 300,000 MT of liquid UHT milk will be exported, and even this may be conservative judging by the present rate of increase.

Infant Formula/Nutritional Powders

At 38,406 MT, there has been a huge surge in IMF exports for 2016 year-to-date, 116% up on last year's volume to the same date. At present, Post forecasts IMF shipments will reach at least 55,000 MT in 2016 and 60,000 MT in 2017. Exports to Australia are up over four-fold at 18,586 MT for 2016 year-to-date compared with 3,318 MT for the prior-comparable-period. There may be couple of reasons for this: Fonterra may now be shipping base powder to further process at its plant at Darnum for re-export into Asia; and/or one of the multi-national dairy companies has rationalized its Australasian production back to New Zealand and is now exporting its needs for Australia from New Zealand.

Once the regulatory changes in the Chinese market are fully implemented and the IMF producers in New Zealand are fully compliant, it is likely there will be further significant increases in total worldwide exports up to a level of 150,000 MT to 200,000 MT annually. The regulations in China now demand that IMF is produced at pharmaceutical safety levels and the supply chain back to the original milk processor is owned and/or controlled by one entity. The number of brands each entity can use is also limited.

Milk Protein Concentrates (MPC)

MPC exports are forecast to reach 85,000 MT in 2016, 5% up on 2015, although this may be hampered by the recent collapse of a storage silo attached to the MPC facility at Fonterra's Edendale, South Island site. Post forecasts that the 2017 export total will be a minimum of 85,000 MT again. One of the strategies behind the new MPC plant at Edendale was to provide the by-product lactose, which is used in WMP manufacture to dilute the protein concentration back to specification.

Imports

Lactose

Imported lactose is used as an ingredient in WMP to standardize the protein content. As WMP produced has reduced, the need for as much lactose has also reduced. In 2016, Post forecasts 65,000 to 70,000 MT will be imported, which will be approximately 23% below 2015. The United States will supply an estimated 87% of this total.