Share valuation the real issue – Dutch expert

“Share valuation is really the heart of the problem,” says Onno van Bekkum, chief executive of Coop Champions and a lecturer on cooperative businesses at Nyenrode Business University.

Van Bekkum has produced a report for a group of Fonterra shareholders concerned at TAF’s implications for the cooperative’s future, and supplied an exclusive preview article to Dairy News.

“There has been a lot of good thinking gone into this [TAF] proposal. But I fear with this impressive level of technical detail farmers might lose sight over the bigger picture,” he warns.

He doubts share trading will contribute to a stable cooperative, and says he can’t think of any example where such a system has worked to the satisfaction of farmers.

“I’ve just seen many cooperatives going down the drain when investor interests start prevailing over producer interests. That’s what TAF does: it deliberately creates a separate cluster of investor interests – both internal and external. You don’t want that in a cooperative. You want to keep a clear focus on producer interests.”

While he has concerns at what is effectively a scheme that will encourage some to cash in their shares, it would be understandable if it was a means to raise capital, he adds.

“Then at least you would build up something.”

As it is, the trading of dividend-bearing units linked to shares will simply drain up to 20% of dividends from the cooperative.

“If you decide to trade, why not start trading internally?”

He also doubts Fonterra will be able to limit the fund size, as it suggests.

“I don’t think farmers would vote in favour
of TAF thinking they won’t be using the fund. There will always be moments when people are in need of cash.”

He notes the blueprint itself mentions “avoiding a flood of shares into the fund after launch”.

“I fear it might not be long until the constitutional limit of 20% may be reached, with or without shocks created by droughts, diseases, financial crises, etc. And then what?”

The board has several options, as proposed in the risk management policy.

“Firstly, buying back units, which means you’re basically back on a track similar to redeeming shares. So how much do you gain from TAF?

“Secondly, introducing dividend reinvestment. Great, but you don’t need TAF for that!

“Thirdly, reducing the transfer limit, which requires members to buy back a portion of their shares: I’m not sure if that would really work in practice.

“Fourthly, issuing shares, to farmers presumably. Does that mean raising the limit on dry shares? Doesn’t that mean we’re further down the sliding slope then?

“Fifthly, altering the constitution to allow more than 20% in the fund. Is that what a ‘preferred option’ – to be recommended at a ‘special meeting’ for shareholders – could also be about? That, again, is risky.”

Van Bekkum says he would solve Fonterra’s valuation problem without introducing dry shares.

“The restricted share value was a step in the right direction.”

End-of-season transaction, a rolling three season-average production/share requirement, and three years to buy in/out all make sense, as does dividend reinvestment.

The fact that reducing share value to the restricted figure of $4.52/share from its $6.79 peak passed without uproar from farmers is a positive sign that shareholders, in general, are not overly focused on share value, he says.

“As the leadership has begun to see, the basis of any strong capital base is retained earnings. I think these are sufficient ingredients for a robust capital structure. I would be inclined to think you might not really need TAF.”

As for redemption risk, TAF effectively passes it to farmers.

“I think it’s not fair simply to pass that burden on to farmers’ shoulders. It’s not particularly cooperative. It’s amazing that farmers just accept that without discussion.”