Coles deals directly with dairy farmers: The winners and the losers

The dairy industry is smiling this morning after Coles announced a new deal with Devondale to source its milk products directly from farmers, in a move set to improve the supermarket’s reputation among farmers and the general public.

The move follows a similar direction from Woolworths, which said last month it would investigate negotiating with farmers directly rather than sourcing milk through suppliers.

But the decision cuts off middlemen suppliers, primarily beverage giant Lion Nathan, which has already released a statement saying it was disappointed in the decision, and puts the future of branded milk in question.

“Prior experience demonstrates that changes in these contracts can cause significant disruption for farmers,” Lion Nathan, which is owned by Japanese group Kirin, said in a statement.

“We are committed to constructively working through the implications of this change with our suppliers in the coming months.”

Coles’ plan will see it pay over $2 billion for milk over 10 years from two separate co-ops: the Murray Goulburn Co-operative (Devondale), and Norco. The money will flow directly into the pockets of farmers.

The move ticks several boxes at once. It ensures a long-term supply of cheap milk for Coles, relieves farmers’ fears of having their margins reduced and creates good will among consumers, many of whom have been irate over the supermarkets squashing dairy farmers’ margins.

But IBISWorld senior analyst Naren Sivasailam says suppliers such as Lion Nathan and Parmalat are the losers here. The latter will no longer sell the milk for a profit but will receive a fee for processing.

“It’s certainly bad news for the guys in the middle, and good news for Coles and Woolworths,” says Sivasailam.

Lion Nathan, says Sivasailam, is the biggest loser, although notes its milk operation wasn’t a huge part of the business anyway.

“To some extent, this was inevitable, as the supermarkets particularly started pushing their private label lines when it was clear wholesalers would be bypassed.”

“The power of the supermarkets really allows them to do this quite comfortably.”

In a statement yesterday, Coles outlined the plan which will begin from mid-2014 when existing contracts expire. More than 2600 members in the two cooperatives will receive a benefit from the deals, it said.

“Co-operative arrangements also offer dairy farmers greater price transparency. Coles will pay Devondale and Norco a premium for their milk which will be passed back to farmers. Like Coles’ other fresh milk contracts the new agreements will also include rise and fall clauses to ensure the price we pay reflects any changes to the farm-gate price,” it said.

Managing director Ian McLeod told The Australian the move has “not been done for PR reasons”.

Merchandise director John Durkan also said the company had negotiated with both Lion Nathan and Parmalat, but the advantage of working in a co-op was the transparency it could offer suppliers.

Sivasailam says as a result, an exit from the milk industry on Lion Nathan’s part could be on the cards.

“It will be interesting to see what happens there,” he says.

“I think the future of branded milk, while not tenuous, is interesting at the moment. We will have to wait and see whether customers abandon their idea of branded products with regard to milk.”

“That may be the most profound implication of what’s happening right now.”