EU proposals for the dairy sector and the future of the dairy industry - Environment, Food and Rural Affairs Committee Contents

Supplementary written evidence submitted by National Farmers' Union (NFU)


1.  Please confirm if the NFU's view is that milk contracts should specify a fixed price or pricing formula, rather than allowing for price to be negotiated between the buyer and supplier during the period of the contract? Is this a unanimous view among members of the NFU? What are the disadvantages to a pricing formula, from the producer's perspective?

The NFU believes that contracts should contain either a clear price or mechanism for determining the price to be paid to producers. This should be agreed mutually by both parties. In practice, we believe it is right for farmer representatives and dairy processors to agree on an appropriate price determination mechanisms for their respective supply chain/market.

Many existing milk supply contracts do not contain any mechanism for the determination of price, other than stating that the buyer will notify the seller of change to price from time to time, sometimes with a limited degree of notice, sometimes retrospectively. This one-sided approach to setting prices throughout the spectrum of British dairy contracts renders farmers with little bargaining power, creates uncertainty and thus undermines fundamental investment that is needed on farms. This is not only iniquitous, but is almost unique as a contractual arrangement.

With a price mechanism as a compulsory term in contracts, price adjustment by the buyer that was not in accordance with the mechanism could constitute a breach of contract on behalf of the buyer, which could subsequently trigger release of the seller from part of or their entire notice obligation.

To put the 'status quo' into context; farmers supplying Dairy Farmers of Britain in the months before its collapse farmers had no choice but to continue to supply, despite many having the opportunity to sign contracts with other buyers willing to pay a competitive market price.

2.  Do the Commission's proposals for contracts need to be compulsory in order to ensure that they are adopted widely, or would a voluntary approach work?

During the discussions of the Dairy Supply Chain Forum it has become clear that transparent price determination in contracts is not uniformly supported by dairy processors. This of course is no surprise, as the ability to reduce producer prices at will, is a luxury that gives processors the freedom to maximise their margins. Together with long notice periods it means that processors have limited fear of losing raw milk supply. The NFU has encouraged a comprehensive debate on contracts across the industry for the last four years. This has led to some changes. However, processors are unwilling largely to relinquish the control that they have over raw milk prices meaning that few contracts, if any, stipulate clearly the price that farmers will be paid or the means by which prices will be adjusted. Although the NFU would like to believe that the necessary changes could occur voluntarily, we are increasingly frustrated and believe that the compulsory is necessary to ensure that changes occur.

3.  The Committee requested additional evidence on the number of dairy producers historically (10 to 15 years ago)

In 1995 Dairy Farmer numbers in England and Wales stood at 28,093, in 2000 this figure was 21,772, in 2006 this was 13,778 and in May this year it was 10,896. A full breakdown of producer numbers can be found on the DairyCo website in the Datum section.

England and Wales

4.  Your evidence stated that the price that dairy farmers are currently receiving and perceiving is significantly less than market indicators would dictate. For how long has this situation persisted and is this time-lag longer than is usual for other sectors?

The following graph, illustrates this point, by comparing farm gate price average to a combination of MCVE and AMPE, the manufacturing derived milk values used as a bench mark in the dairy industry. Alternative permutations of MCVE and AMPE show a similar pattern, with regard to time lags.

5.  You stated that the "Commission's proposals do not provide anything near the totality of the answer, they at least provide a partial solution to one of the biggest problems". What is missing from the Commission's proposals that would provide a more complete answer?

The Commission's package cannot answer all the problems in the British dairy sector since many of the problems are commercial in nature. There are a number of supply chain issues that can only be addressed by the supply chain. For instance, inefficiencies in the processing sector can only be addressed through investment and consolidation in manufacturing. However the dairy package does present a possible solution to some of the recurring and stubborn issues around price determination in contracts and also the competition law barriers to farmer collaboration and collective negotiation.

6.  Dairy UK told us that farmers had to get involved in milk processing to get a greater share of the value added. How can farmers do this, and how feasible is it?

It is natural that a trade association representing the interests of dairy processing companies will in some respects differ in view from the NFU which represents farmers. We would agree with Dairy UK that investment downstream in processing is one way in which farmers can add value to raw milk and has certainly proved successful (albeit over a long period of time) in some other EU member states where vertical integration via co-ops is the norm. However, the history of farmer investment in processing in the UK is not always a happy one, with a number of ventures having failed or not entirely meeting their initial aspirations. Examples such as Amelca, United Milk (Westbury) and Dairy Farmers of Britain spring to mind. This is not to undermine the progress that UK co-ops such as Milk Link and First Milk have made but it is important to appreciate the confidence dent that dairy farmers have received in the past as a result of investments in processing that have not proven to be successful and led to significant losses of investment to farmers.

What is more, farmers have huge amounts of capital tied up in the infrastructure necessary to produce milk. For instance a cow with a value of between £1,500-2,000, requires at least an acre of land worth £6,000-10,000 and capital infrastructure investments of at least £5,000 on top of this. Where farmers have made investments downstream through co-ops or other forms of farmer controlled business, they should certainly expect a fair return on this investment, in addition to a raw milk price that reflects its value in the market place or reflects costs of production.

The NFU encourages and aims to support any member who has the appetite to invest in processing to add value to their milk. However we do not believe such activities should be relied upon to cross subsidise their core business activity of farming. What is more, the value of all milk produced should, to some extent, reflect its contribution to end use. The NFU has consistently argued that there is absolutely no reason why raw milk produced for the liquid market should track commodity market variables as its ultimate use is divorced from these markets.

7.  Would you agree with Dairy UK's claim that "dairy companies pay premiums for security of supply. If they are faced with mandatory contracts that link price and duration of the contract, you reduce the security of supply and you reduce the incentive for dairy companies to pay premiums"?

We do not agree with Dairy UK's assertion and we can see nothing in the Commission's proposals that would prevent processors from paying premia in order to secure milk. We understand that the package would simply require contracts to specify either the price, or price formula to be paid (this could take the form of a minimum guarantee) and for this to be agreed by both parties in advance. What is more, the benefits of the dairy package in terms of driving certainty and predictability into pricing arrangements in contracts cannot be under-estimated. At the moment, premia are paid over prices that are not clearly set out in contractual terms (the level of premium may be fixed, but the base price is not). If adherence to a determination mechanism became a contractual clause, which if broken can lead to a notice period break, the best way for a dairy processor to maintain security of supply would be to adhere to the terms of such a price clause.

A farmer who breaks contractual terms such as milk quality, risks his security, likewise a processors who fails to operate within certain price parameters, agreed between parties, should also be exposed to such risk. Can you expand on your comment that the Government should reconsider fiscal incentives to help deal with the cost of cross-compliance?

Our comment was made in relation to capital investment in infrastructure that helps dairy farmers deal with regulatory burdens such as Nitrate Vulnerable Zone requirements on manure/ slurry storage capacity. There are in essence two parts to this. The first of these is the withdrawal of Agricultural Buildings Allowances that allowed farmers to write off a proportion of investment in new buildings, including slurry stores, against tax. This offered an affordable fiscal incentive to induce investment and defray the costs of essential infrastructure needed to meet regulatory requirements (which is normally a depreciating asset). The ABAs are being phased out and being replaced by a considerably less generous Annual Investment Allowance.

The second issue relates to capital grants. Funding for projects relating to NVZs in Wales and Scotland attract a degree of capital support from the Welsh and Scottish governments. This support is not available in England. Furthermore, rural development funds could be targeted to help farmers with cross compliance requirements, through investment and assistance with grant applications for projects relating to environmental improvement (manure management/NVZs) and animal welfare improvements on farm (cattle handling). In addition there is still scope to improve the environmental credentials and profitability of dairy farming through targeted help with energy efficiency audits and capital improvements as a consequence of these.

8.  The implementation of the Fruit and Vegetable Producer Organisation regime by the RPA resulted in the UK incurring substantial disallowance for misinterpreting the regulations. Are the Commission's proposals for Dairy POs sufficiently clear to negate this risk?

It is important to understand the distinction between POs under the Fruit and Vegetables regime and the arrangements proposed in the dairy sector. Under the former, POs are created and recognised as a vehicle for drawing Community funds under the CAP to support the activities set out under a PO's Operational Programme. These activities include enabling growers to become more efficient, improve the quality of their products and respond to environmental demands. In the dairy package, no financial support is made available to POs. Instead, the "incentive" is to allow the body to collectively negotiate contracts on behalf of the individual producer suppliers. As we understand it, the issues in relation to disallowance under the FVP regime relate to the payment of community funds to PO's that had been incorrectly "recognised" by the RPA. Despite these problems, grower members of PO's in the UK continue to express considerable support for the fruit and vegetable PO regime and the way in which it has helped them to respond to the demands of the market.

The Commission's proposals are not entirely clear as to their scope: it is not clear how PO's would be formed, how they will operate and how they can be organised. These are details we would expect to emerge through more detailed implementing regulations. However, there may well be potential for the formation of POs in the UK dairy sector and we would hope Defra is proactive in its engagement with the Commission in the interim.

Dairy farmers are limited in their ability to work collaboratively to collectively negotiate terms and conditions of trade which are favourable. Barriers include competition law, the nature of the industry and farmers businesses and also the scars of attempts to work collaboratively in the past, in Milk Marque. The commission's proposals could be the catalyst and facilitator for collective negotiation, through which price determination and other conditions are effectively negotiated in a free manner between dairy processors and farmers. As with all such undertaking the devil is in the detail and the detail is still clouded by the legislative and democratic processes of the European institutions.

June 2011

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Prepared 29 July 2011