EU Proposals for the Dairy Industry

Written evidence submitted by Agriculture & Horticulture Development Board (AHDB)

(DRY 01)

Potential impact of European Commission’s Milk Package for dairy farmers and the UK dairy supply chain

1. The Agriculture and Horticulture Development Board (AHDB) welcome the opportunity to provide evidence to the EFRA Select committee. AHDB are an independent levy board funded through statutory levies paid by farmers, growers and in some sector’s processors. We aim to improve the efficiency and competitiveness of various agriculture sectors, and cover 75% of total agricultural output, including the dairy sector across Great Britain.

2. AHDB welcome the proposals outlined by the European Commission for written contracts between milk producers and processors, and measures for enhancing transparency in the market. These proposals could help to improve market signals to producers which will help make the market work more efficiently. The rest of this submission is written in the context of actions that could help improve the efficiency of the supply chain and provision of clear market signals to achieve the optimal outcome for all parts of the supply chain.

3. Whilst the use of written contracts between producer and processor is already common place in the UK there is much debate in the industry about whether these contracts hinder the market from operating efficiently. The European Commission proposals could address this issue by ensuring certain common elements are included within contracts.

4. The Milk Development Council, a predecessor body of AHDB, published a report on raw milk contracts back in 2005. This report highlighted a number of problems with raw milk contracts which resulted in poor market signals being sent to farmers. The report suggested that contracts could be improved in a number of areas, which could result in a more efficient and profitable outlook for both producers and processors. In the five years since publication some of the suggestions have been adopted, or partially adopted, but the key issue of pricing and notice periods remain. In the remainder of this document we highlight these issues in more depth.

5. Firstly, the vast majority of contracts do not have clear pricing. Few contracts at producer level look at market indicators when setting the price. Most contacts have a base price that can be moved up or down as the milk buyer wishes. One of the few exceptions to this is the Tesco’s contract, which bases prices on costs of production related data. Without a transparent system such as this milk prices can be a cause of conflict between producers and milk buyers. Sometimes deliberate confusion on milk pricing can be created by either side of the industry in order to gain commercial advantage. The relevant market signals for milk pricing are often changed eg. sometimes it is milk supply, other times it is return for dairy commodities or even wider market conditions. There is often no clear or consistent agreement on what is important in pricing milk with both sides of the industry trying to gain advantage.

6. Secondly, those buying milk are able to change price at short notice, or even retrospectively without the option of a farmer stopping supplying milk to that buyer. Although there are some contracts where farmers have a three month notice period, such as Robert Wiseman Dairies and the Caledonian Cheese Company, a 12 month notice period is more common. Some buyers even specify specific dates on which people are able to hand in their resignation which mean that it could take as long as 18 months for a farmer to leave their milk buyer. This means that farmers have a weak negotiating position and leads to decisions being imposed on farmers, restricting collaboration in the supply chain. If contracts were set up so that price changes had to be mutually agreed, farmers (and processors) would have the option to end the contract (with an appropriate notice period) if changes are not agreed, and could divert some or all of their milk to another buyer. This would give a more equal partnership between farmers and milk buyers, and make it more likely that farmer representatives would be consulted before processors changed their prices or re-tendered for a supermarket contract.

7. Final, many contracts do not specify milk volumes. Most contracts supplying the liquid milk market will incentivise farmers to produce a level supply by paying more for milk produced during the seasonal trough. However, many contracts do not specify the monthly volume of milk to be produced and this reduces the predictability of supply for processors. Processors suffer as they have a more difficult job managing their plants because they do not know how much milk will be produced and cannot plan properly. Specifying volumes within agreed tolerances would allow clear market signals to be passed back to farmers.

8. The European Commission proposals will be of greatest benefit to the UK dairy industry if they instigate change in the areas outlined without dictating a one size fits all approach. For example the mechanisms for setting prices within a milk for cheese contract could be very different to that within a liquid milk contract. Contacts could specify prices in different ways such as:

a. xxppl for the next 6 months.

b. Price formula of AMPE (Actual Milk Price Equivalent [1] ) indefinitely.

c. Price formula of MCVE (Milk for Cheese Value Equivalent [2] ) +2ppl indefinitely.

9. The exact details of contracts should vary depending on different circumstances, and it should be left to commercial organisations to decide this. However, key principles should be addressed in contracts, such that that prices should be agreed, and producers should be able to easily and relatively quickly move to another buyer if this isn’t the case. This would aid clear market signals and an effective supply chain.

2 March 2011