Fonterra Co-operative Group Limited ($FCG)

Thank you for standing by, and welcome to the Fonterra FY '26 Interim Results Briefing. [Operator Instructions] I would now like to hand the conference over to Mr. Miles Hurrell, CEO. Please go ahead.

Good morning. Thank you for joining us this morning. I'm joined this morning by Andrew Murray, Ronald and Richard here to answer your questions on the half year results. But headline numbers for me or headline comments for me is that really pleased with the results that we've been able to put out today on the back of an increase in milk price in recent times of which we've increased our forecast on that this morning. The team have delivered a set of strong results across all parts of the organization. So on that, I'll hand across to the questions. Thank you.

[Operator Instructions] Your first question today comes from Joshua Dale with Craigs Investment Partners.

First question, could you give us a sense of your exposure to the Middle East, I suppose, both from a revenue and energy cost perspective? And presumably, any exposures captured within the range of your guidance for this year?

Did you say energy cost? I didn't quite get the second part that you said there.

That's right. Yes, whether that's diesel, coal, et cetera.

Yes. Got it. Okay. So from a Middle East perspective, at the moment, we've got product flowing up, which is good. So we're pretty comfortable with that. Obviously, a bit of shipping delays in there, and there are additional sort of shipping costs that are coming in. So we have got a little bit of impact of that, but nothing obviously in the first half in the expected earnings range. So we have taken an account of that. If I look at in terms of cost, diesel, et cetera, we are well hedged in those positions. So I don't -- we won't see an impact of that at least through until the sort of last quarter, I would expect before we see any sort of impact there because we do maintain a hedging program for all of those things. So we're in a pretty good spot from that perspective. The relationship that we have with Qatar here is allowing us to get product up into the right space. And so we're pretty much hitting the right ports at this point in time, although there's a little bit more land transport in those Gulf countries. So if I look at it from that perspective, yes, it's actually not too impactful at the moment. What we have is that if I look at our range for the earnings for the back half, then yes, we've got a little bit of conservatism in there to take account of the fact that if this goes on for a little bit longer, then it's going to start having a knock-on effect. So at the moment, relatively muted, but we have been cautious with our back half just in case this flows out a little bit longer than we're expecting.

That's helpful. Previously, you said the -- sorry, go ahead.

No, just from an energy perspective as well, just if we look at that, we hedge out those as well. So from an energy perspective, it's not having a knock-on either.

Okay. Great. On ERP costs, previously, I think it was mentioned those costs were to peak in FY '26. I noticed on Slide 4, you're talking FY '26, '27 now. Do you see a ramp down in those costs in FY '28 still? Or does it push out the timing of your target of getting back to pre-divestment levels of profitability by FY '28?

Yes, it's not going to impact that. So we're just going to have -- we'll probably end up with just a little bit less spend in '26 and a little bit more in '27. So we're just having that full out. We are on track and on budget for the total program, and we expect that it will still end in the same spot. We've just done a little bit of rephasing between '26 and '27 as things have played out. So we are live in, well, 2 sites and in 1 market at the moment. So that has all gone as we expected it to. So we're not seeing any cost overruns. We're not seeing a time overrun, but just a little bit of phasing between '26 and '27.

Okay. That's helpful. Last one. Your dividend policy remains unchanged. Your balance sheet is looking stronger now compared to when it was set initially. Any foreseeable change to dividend policy at all?

No, we're not looking at anything from a dividend policy at this standpoint. Obviously, we look out -- we've got a capital program that we want to continue to invest in. Obviously, that's part of us getting back to our [ 20 ] earnings is to continue to invest in the growth parts of the business. So we feel pretty comfortable with where we are from an earnings and a dividend standpoint at the moment.

Your next question comes from Arie Dekker with Jarden.

Firstly, just a quick mention, Miles. Congratulations on an amazing tenure in charge of CEO. I don't think there'd be many cases in terms of the wide gap between the state of the business was in when you took over as CEO and the state you leave it in. So yes, well done. Just first question, on the farmer offering slide, obviously, very strong growth in milk supply for a range of reasons, including the net gains from competitors, which is great to see. Can you just sort of talk to what your expectations are of sort of the sustainability of milk supply at those sorts of levels and what sort of factors would swing it?

I'm not sure I understand the question entirely, but we are still seeing new conversion in the South Island is probably a key point. We haven't seen any new competitor builds announced in recent times. So that's helpful for the next couple of years. That said, it's a competitive environment, of course, and the [ dairy ] legislation, while that's up for a review at some point, doesn't mean that, that changes the competitive landscape. So we're confident in our farmer offering. It starts with obviously a strong performance of the organization. And obviously, we've got sustained performance. And as a result, we're starting to see good strong momentum with farmers wanting to come back or existing farmers actually looking to grow also. So those things give us confidence. Our position into the long term is sort of that slightly up, I guess, if you can tell that. Historically, you might have call it flat. Flat to slight decline might have been a position we've taken historically. Our position at the moment is now, flat to slightly up, is probably the way to describe it, weather dependent in any given year, of course.

Yes. And off this FY '26 base of supply, you would sort of have expectations of it being flat to slightly up?

Yes. I think this year is a slight anomaly and obviously a strong milk price last year and this year. So you might want to normalize back, slightly back. So we're at 1,565 million kilograms versus last year's 1,509 million kilograms. So somewhere in the middle of the 2 might be a good starting point if you want to then use my basis of flat to up slightly.

Yes. No, that's helpful. And just on that competitive landscape, I mean, obviously, we've seen a number of your competitors struggling. Have you sort of entertained any discussions really sort of -- I mean, consolidation probably wouldn't be the right word, but where sort of assets might have been offered to you? And does the co-op have any interest in that?

So probably the first and maybe the only thing I can probably say in this area, Arie, is that when we -- if we were to ever look at any assets that may or may not have come available previously, first and foremost is, is it the right thing to do for our existing shareholder base. And if it answers yes, then you start to look at the next phases. So yes, that's probably the most important thing here. There's -- nothing else would come more important than is it would it support our existing shareholders? And if the answer to that was yes, then you'd go to the next phase and look beyond, but I won't say probably much more than that.

Cool. And then just one final question for me. Just going through the ERP transformation at the moment, as Josh touched on. And the annual spend at the moment and including sort of in first half run rate across both your normal information technology spend and then the ERP replacement is around the $300 million mark. Have you got -- I mean, you must be at a point presumably where you sort of have an idea of what that cost base in IT will settle at once the new ERP is implemented in '28? And yes, just looking for a bit of a guidance on what that level is just because it probably informs a reasonable amount of those earnings sort of upsides that you pointed to at the FY '25 result.

Yes. So I think if we take the ERP program, obviously, that's a significant investment, which gives us a good sort of base technology level, which we've been obviously investing behind. So there's a chunk of that spend that will come out, obviously, because we won't be continuing to do that. However, technology is certainly a part of the business that continues to be something that we will invest in. So there's plenty of new technology out there that allows us to perhaps get other efficiencies elsewhere. So what I would say is we'll certainly reduce down from what's currently there, but I don't think it would be the whole impact of the ERP just coming out. So take it somewhere between those.

[Operator Instructions] Your next question comes from Matt Montgomerie with Forsyth Barr.

I'll just echo comments on Arie with respect to your tenure, Miles. Well done. Just maybe firstly on foodservice and margin specifically, a pretty strong couple of quarters to start the year. Could you maybe just strip out the China consumer components within that? Like what's sort of been the delta between this year and last year and getting losses maybe back to breakeven and where we sit today on that side?

Yes. I mean just at a high level, the consumer piece of it is sort of almost a rounding error. So it's immaterial in that number. That is a strong growth in foodservice margin. To be fair, it comes on the back of a declining fat price in the first half of the year. So we've been able to hold those prices up while our fat pricing came back from a COGS perspective. So that's been a key driver of it. But at the same time, driving growth as well. So it's a combination of all, but consumer part of it is very small.

Okay. So consumers maybe at breakeven now, so there's not that sort of earnings benefit to come through that. I can't remember what the loss was. It was still somewhat significant. I can't remember.

No. It will -- it had turned to profitability in the last couple of years, albeit relatively minor some of the brand impairments, yes.

[indiscernible]

Yes, correct.

But still minor.

Yes. And then just to confirm on one of Josh's earlier questions around the 3-year earnings target. Is there any reason that hasn't been, I guess, reiterated today? Presumably, you're still well on track, if anything, maybe the first half is...

Yes, no change. We're 100% committed to that.

And then just on this year's guidance, the midpoint has been lifted $0.025, but it feels like the first half is probably tracking quite a bit better than that. So I guess we make the assumption that the Middle East doesn't, I guess, get out of hand relative to your current expectations. Is it fair to assume that we're probably tracking more towards the top end of your range today, albeit I appreciate there's a range there for a reason and the uncontrollables that can come through. Yes, it just feels like the first half was probably better than, say, what the guidance uplift has been factored into.

Yes. I think that's a pretty fair reflection is that the situation we see ourselves in the Middle East means we've got to see a bit of water go under the bridge before we make any further changes. But you're right, a strong first half. More sales will be coming in the second half given the milk flows. So things look positive in that regard, but with the downside risk of what could play out through the Middle East. So hence, the reason we still have kept the top end of the range unchanged.

Your next question comes from Nick Mar with Macquarie.

Just in terms of stream returns and the like, it looks like the sort of hedging and risk management products you've got on sort of work quite well. Can you just talk to how you sort of view the net impact of those going forward and whether or not you think you've genuinely smoothed a lot of that delta on a go forward basis?

Yes. So I mean, I think from that perspective, it's not having a big impact in the half results for sure. So we are starting to see that as we've developed -- as has been the plan is that we are using our hedging to be able to offset, I guess, the volatility that comes through in that space. So it's not something that we are particularly thinking is either a big net positive or net negative for the results going forward. So that's what we've been designing it around. And so we expect that, that will continue. I don't know, Richard, if you had any more.

No, I would suggest, Nick, you could say our '26 and '25 sort of contributions, they're pretty similar based into our current forecast. '24 is a little bit lower than that. You would suggest that, that's 3 years now that's getting pretty close to what you've got to think our sort of ongoing average is going to be.

Yes.

Yes. No, that's good. Just the sort of volatility was quite significant prior to all this. So -- and then in terms of the sort of 3-year forward, are you guys able to share any more color on your thinking of the sort of composition of the earnings growth between some of the cost out and sort of, I guess, revenue or sort of strategic execution items. I guess you've just sort of said that the ERP won't fall all the way out. So you've got sort of a bit more work to do, I guess, on other buckets. But if you could provide any color, that would be helpful.

Yes. So I mean, I think, as Miles said, obviously, we remain comfortable with those as there. You'll see the -- even the investment that we announced today as well in further pastry butter sheets, so the execution of the strategy that we've got is what delivers us the upside. So we're moving more into foodservice, which we previously indicated, and we're moving out of that more of the commodity ingredients into the advanced ingredients or ingredients advanced ingredients for ingredients, that's good. So that becomes -- obviously, that's the core of the plan. I think last year as well, we did say that the makeup was probably around a 50-50 split between costs and then what would actually be earnings growth. And so we do have a cost opportunity within the business as we simplify post divestment. So that is coming through. We've had actually some decent progress this year. We've got -- that will come through in the back half as well. So I feel comfortable about us taking the cost out where it needs to because we are a leaner organization and have less complexity. So we'll see that come through. And then yes, we continue to do what we said we're going to do around ingredients and foodservice. So that's the makeup of how it flows through. We feel pretty comfortable about it.

No, that's great. And then lastly, just on Mainland, obviously, a strong result of the business, and there were some impacts like you called out inventory revaluation. Can you provide any color about that? And just sort of, I guess, proving that this wasn't sold far too cheaply and that this isn't necessarily the run rate for the business going forward?

Yes. So there is a chunk in there. I think if you look at it, I guess this shows some of the volatility that still is within that business. So you see in there, of that $71 million, let's say, $50 million of it was in that Australian ingredients business, but it was actually just seeing the benefit of the commodity cycle change. So if you go back maybe even back 18 months, the Australian ingredients was a loss-making space. We're now in a space where that isn't the case anymore. So that volatility still remains there. So I would say what are we looking at year-on-year improvement of around about $20 million, maybe let's call that, in terms of underlying performance in the consumer business, actually, not the foodservice part of the consumer business where they've held on to some decent margins and also had the impact again of -- as our foodservice business had of slightly lower input costs. So that's how that's played out. So that's sort of the same sort of cycle that you would have seen in the consumer business, but it's played well. From our perspective, we're still talking about a 9% return on capital. So we look at it from that. And that's based on our capital invested, not -- we actually go for it in terms of the pricing. So I look at it and I'm like, have we -- is there anything to make us think that we've made the wrong call? Absolutely, no.

Thank you. There are no further questions at this time. I'll now hand back to Mr. Hurrell for closing remarks.

Great. Thank you very much for joining us this morning. Of course, the team are available for any further follow-up questions that you may have. But again, thank you for those comments that we also made about my tenure. This is my last results that I'll be fronting. And so I appreciate all your support along the way also. But thank you very much, everybody.