Change in the EU dairy sector:lessons for all agri food industries, near and far

Impacts of quotaremovalSo what does this mean for milkproduction and dairy farmers wakingup on Wednesday morning 1 April? In the short term, there may be littleimpact, but this largely depends onwhich country you are in.

For the last 5 - 10 years, milk quotas havehad little impact in a number of countries.In the 2012/13 quota year, only fivecountries (Germany, Denmark, Cyprus,Austria and Poland) exceeded quota.

In 2013/14, eight countries (Germany,the Netherlands, Poland, Ireland,Denmark, Austria, Cyprus, andLuxembourg) exceed quota. Perhapsmore importantly though, in 2013/14,20 Member States produced belowquota, with 14 of these more than10% below their delivery quota.

For those countries producing at, orabove their quota such as Ireland, theNetherlands and Germany, quotaremoval provides the ability for farmsto grow.

From recent research we have carriedout on the subject, it is possible thatthe top 14 milk producing countries inEurope will increase their production byanywhere between 6.8 and 23.2 billionlitres per annum by 2020 following theending of the milk quota regime.

And with low level demand growth formany dairy products in Europe, it isinevitable that almost all additional milkproduced will have to be exported. Thismeans the growth of EU milk productionwill be heavily influenced by globaldairy prices and driven mainly by externalfactors including weather, supply anddemand shocks and input prices.

We can only predict further ongoingchange in the dairy farm sector.

Over the last seven years, European dairyfarm numbers across most countrieshave declined in the last 10 years andmore. They will continue to decrease,but in parallel with a continuing trendtowards increasing herd size.

Although they may not admit it, Irishfarmers tend to see themselves as the‘New Zealand’ of the Northern Hemisphere– a relatively small country, a mildclimate with mainly pasture based, lowcost dairy production. The currentnarrative is that milk quotas haveconstrained the Irish industry - if it was not for EU milk quotas, Irishproduction would be much higher than it is now.

Likewise, many Dutch and Danish farmerssee themselves as global exporters thathave been constrained by Europeanquotas and look forward to improvingtheir farms and increasing milkproduction.

Since World War Two, Europe has played a key role in influencing global dairy markets – as a major dairyexporter, but also though its agricultural policies, which have influenced global markets. For many years, theEU has been slowly modifying its approach to supporting European agriculture and on April 1 2015, one ofthe major pillars of European dairy industry structure, the EU milk quota system, was finally removed.

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External driversThe extent to which key Europeancountries are able to increaseproduction will depend on a number ofother external factors, not just theremoval of quota.

In countries such as the Netherlands,high levels of existing production meanthat environmental restrictions couldeffectively cap production levels.Farmers will need to produce moremilk, whilst at the same time, alsodecreasing the amounts of manure andnitrogen etc. that is discharged intothe environment.

Countries that have been consistentlyunder quota will need to address deeprooted structural issues beforesignificant milk production increasescan be achieved.

These structural issues are typicallybased around farm productivity. In countries such as Finland, Austriaand France, there are still largenumbers of farmers with relatively

small herd sizes, high coststructures and lowlabour productivity.

Making these farmsmore competitive

within Europe will benecessary before milk

productionincreases can

occur.

Global marketsand pricesThe global milk price is a clear externaldriver. Europe is now firmly part of theglobal dairy markets and changes insupply or demand across the worldimpacts on the European milk price.Europe is a relatively high cost dairyproducer; unless the global milk priceis sufficiently high, many Europeanfarmers will find it uneconomic toexpand production.

The last three years have shown howweather conditions can also significantlyincrease or decrease national milkproduction across a wide range offarming systems in Europe. As anexample, mild weather during theItalian summer of 2014 resulted ingreater milk production and higherpregnancy rates, as less cows weresubject to heat stress.

On the other hand, across the UK andIreland, cool and wet weather duringthe summer of 2012 resulted in lowpasture growth and poor quality silageproduction - both of which resulted inlower milk yield.

Speed of changeThe speed at which some countries inthe EU have increased milk productionhas surprised many industry analystsand highlights that, given favourableconditions, farmers will respond tohigher prices with increased production.Although the Russian import ban andslow down in Chinese demand maydecrease production growth in 2015,and even 2016, we believe a return tomore favourable external factors insubsequent years, will see a return tostrong milk growth in Europe.

Competition from other land uses is akey driver of milk production volumesin Europe. Across Europe, areas of flatland with good soils and adequaterainfall (or irrigation) tend to be usedfor arable/cropping, not dairying. In such areas, dairy production will beinfluenced by the ratio of crop prices todairy prices.

In the UK, there are very few dairyfarms in the Eastern part of thecountry, because they are stronglymore suited to arable production.Whereas, in countries such as France,mixed farms (dairy and cropping) arestill relatively common.

Biofuels are another newer source ofcompetition that will impact futuredairy production. In Northern Germany,land prices are at a premium largely asa result of biofuel plants looking tolease land to grow maize/other cropsfor fuel.

Access to processing capacity is anotherpotential brake on milk productionintentions. Countries like the UK andSpain, which have seen little investmentin additional production capacity inrecent years, will find it harder to growmilk production.

The effects will befelt, by all, andfor the long-termUltimately, quota removal will result ingreater change and more competitionamongst all European dairy farmers.The best farmers in the best areas willcontinue to grow and prosper, whileless efficient farmers, or those inpoorer dairy farming areas, will findconditions even more challenging.

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Technology acrossthe board is moreimportantOver the next ten years, dairy processingcapacity will shift to focus on the bestproduction areas or, for high volumeproducts, such as liquid milk, to areasstrategically sited close to consumermarkets.

Other dairy support services such asveterinarians, genetics and machinerysuppliers etc. will also focus theirresources on these high density milkproduction areas. Farmers outsidethese areas will find it harder to competeand remain viable.

The potential for increased competitionbetween milk producers within Europefollowing quota removal means thatmore farmers will be looking fortechnologies, including breedingtechnology such as provided by ourown parent company, Genus ABS, thathelp them lower their costs andbecome more efficient.

The removal of EU milk quotas will notchange the European industry overnight,but we believe their removal will makeit easier for the better farmers to movefrom simply milking cows to becomingentrepreneurs and “managingbusinesses” that deliver a range of in-demand products and services.

Europe - still agood place tofarm and producefood Although we also see the removal ofEU quotas as causing change and painfor many producers, particularly thoseon small farms in remote areas, orareas less suited to dairy farming,overall, the changes will be positiveand lead to a more productive andcompetitive European dairy industry.

Ireland stands out as a clear growthopportunity with arguably all of theabove requirements already in place.Countries such as Denmark and theNetherlands also have strong growthpotential, so long as they are able tomanage ‘internal’ issues regardingenvironmental impact and publicperceptions.

The UK, Germany, France and Polandalso have strong dairy growth potentialin regions where many of the abovefactors are present. These countriescould see greater production growth ifthey can overcome, or work-around, themain barriers holding back milkproduction in other parts of the country.

Even countries like Spain and Italy havepotential for dairy growth in specificregions such as Galicia and Lombardy.

A freer milk market also paves the wayfor the EU to lead the world indeveloping a truly sustainable dairyindustry with significant improvementsin animal welfare, environmentalimpact and profitability for the farmer.

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The European dairyindustry towards 2020Promar International has produced a report onthe future of the European dairy sector. Theanalysis was based on a review of publishedreports and articles, supplemented by in-depthinterviews with dairy industry experts in thenine largest dairy producing countries. Theseexperts were based across the supply chainfrom universities to input suppliers to industrysupport organisations. We also built on theinherent knowledge we have gained fromworking in the international dairy sector overan extended period of time.

Published by: Promar International, Alpha Building, London Road, Stapeley, Nantwich, Cheshire, CW5 7JW. Tel 01270 616800 • Fax 01270 616704 • www.promar-international.com

Farming • Food & Drink • Environment • Public sector • Trade associations and levy boards • Private agri business

For more details contact: Andrew Mclay,

Senior Consultant, Promar International.

Email: andrew.mclay@genusplc.com Tel: +44 (0)7885 532256

What can we alllearn from changein the Europeandairy industry? Aside from the formal removal ofquota, we have identified many otherunderlying change drivers in theEuropean dairy industry, which are alsoaffecting many other agri food supplychains. These include:

• Growth and expansion should not be“at all costs” – production growthneeds to be sustainable and managedin such a way that mitigatesenvironmental impacts. Many regionsof the EU however, remainfundamentally good places toproduce agricultural and foodproducts in the future

• EU markets will be less regulated thanthey have in the past and productioncontrols and incentives are beingreplaced by support and rewards forgood environmental practice, use ofprotected food schemers, addingvalue and rural sustainability

• Less protected markets will inevitablylead to the rate of change accelerating,especially when combined with thegreater price volatility which will beprevalent. These conditions will benew to many European countries,while other parts of the world aremore familiar with them

• Global commodity prices will play anever increasing role in influencingchanges in supply

• Farm numbers will continue to fall inmost EU countries, but those thatremain will get bigger in size

• The role of technology per se willbecome more important as farmersand food processors need to becomemore efficient

• Market growth will come fromemerging countries in the likes ofAsia, Africa and the Middle East inparticular bearing in mind the oftenmature nature of the EU markets foragri food products per se

• Producers will need to be globallycompetitive in order to survive andwill need to develop their technical,financial and people managementskill sets in order to operate high-performing businesses

• Land use policy, the suitability of landfor different types of agriculturalproduction and land costs will be akey driver of what, where, how muchand how food will be produced

• Climate will be an increasinglyvolatile variable and agri-foodbusinesses will need to capable ofwithstanding weather-related ‘shocks’

To our minds, these are all issues facingagricultural and food businesses alike,not just the European dairy industry.The ‘winning combination’ will eventuallybe the country/region with an efficientfarm production sector, able to producehigh-quality, low-cost products withminimum environmental impact,coupled with an efficient, customer-focused processing sector.

Some European farmers and processorsalready display these characteristics,but many do not. Europe’s success incapturing a large share of future globalmarket growth is not guaranteed in theface of strong international competitionfrom countries in the SouthernHemisphere and North America, andsome of the emerging marketsthemselves, who are rapidly developingtheir own food production, processingand export sectors.