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Bucolics Anonymous

Forget mining and financial services. Agribusiness is shaping up to be the next hot investment sector.

By Kristen Le Mesurier for

Forget mining and financial services. Agribusiness is shaping up to be the next hot investment sector. Some analysts go as far to say that soft commodities are exhibiting the same characteristics and demand/supply fundamentals as base metals at the beginning of the current bull market in 2001.

The world has never experienced this many drivers of demand growth simultaneously with this many constraints on supply. What this means is record prices for wheat and near record prices for almost every other soft commodity, including soybeans, maize and dairy.

These sound like dream conditions for a country born on the sheep’s back. Yet this year’s Diplomat Global 100 proves for the second year in a row that agriculture is not as relevant to Australian business in a rapidly globalising world as it once was. Only seven agricultural companies make The Diplomat Global 100 and none of these make the top 20.

The absence of agribusinesses from this year’s Diplomat Global 100 is telling. Missing from the list are agribusinesses with reach along the entire supply chain. There are plenty of agribusinesses that grow or buy raw materials and sell them either here or overseas. But there are few, if any, agribusinesses that turn these raw materials into products. And that’s where the big money is. The crux of it is that agribusinesses have rarely harnessed a vision that has stretched beyond the farm gate.

Denis Gastin, the managing director of strategic analysis consultancy Instate and a former senior economist in the Department of Trade, says Australia has always baulked at the investment required to turn raw materials into global brands. “Historically, most of the value-adding has not been done by Australian companies but by foreign food companies. They’ve always built the global brands because the attitude towards the food sector has always been grow it, sell it, ship it as a commodity. That gap still fundamentally exists and that’s why Kiwi and Japanese and other companies have been coming in and saying, ‘If the Aussies aren’t doing it, we will’.”

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Senior economist at Commonwealth Securities, Craig James, says farmers need to think more laterally about what’s required to succeed in global markets. “Farming has been more at a family level than a corporate level. We need a total re-think of the way that agricultural production is undertaken in Australia,” James says.

Most notable of the bigger players that have realised the importance of international expansion and brands are the dairy companies. Both Dairy Farmers and Murray Goulburn Co-operative have shifted their focus to value-adding in the last few years and pushed into Asia with new brands. But expanding internationally under a co-operative structure has proved difficult. Given that producers’ own financial imperatives put pressure on profits to be converted into dividends, the patience and capital needed to compete head on with the likes of Fonterra and National Foods are in short supply.

“The dairy industry has tried to value-add, but even then they haven’t set out to process and sell final high-end products. They’ve focused on sending off powder and bulk processed food, and that’s because Australian companies have always been a bit frightened by the cost of establishing a brand in other markets,” Gastin says.

The result is a dairy industry that appears to be stuck in its infancy. Compare the Australian and New Zealand dairy industries, both of which deregulated their industries about 10 years ago. Just two companies, Fonterra Co-operative Group and New Zealand Dairy Foods, account for almost two-thirds of the New Zealand market. Both are big enough to swoop into countries such as Australia and buy the prized sources of supply.

In Australia, on the other hand, the three major producers, including Murray Goulburn, Dairy Farmers and Fonterra’s local subsidiary, represent just two-fifths of the industry.

Domestic dairy co-operatives do recognise that change and industry consolidation is inevitable. Making it happen appears to be the big stumbling block. Dairy Farmers, for example, has spent the last four years planning, preparing and discussing a public listing worth as much as $1 billion. About 2000 farmers voted to turn the co-operative into a company in 2004. This paved the way for a stock market listing yet four years later the transformation has still not occurred.

A culture of innovation and entrepreneurship has simply never developed in Australian agribusiness. North Asian and Middle Eastern countries can’t buy enough of whatever we grow, and sending over the materials in raw form is an easy sale. Moreover, the high level of investment required to build value-added products and brands has been further exacerbated by the failure of Australian supply chains to globalise. Neither the dominant supermarkets nor the intervening logistics providers have ever had any global or regional presence, so unlike the mining sector where the big players have dragged their suppliers and service providers offshore with them, in agribusiness it’s been a comfortable but fragmented domestic status quo.

Only now are the chickens coming home to roost. Australian agribusinesses are being picked off regularly by overseas players. At the end of 2007, Australia was the most targeted country in the Asia Pacific, excluding Japan, with takeover bids in the agricultural industry totalling $4.2 billion. Just as China has been attempting to secure the supply of resources by buying stakes in the big mining companies, the world’s biggest agricultural companies are looking to control the supply of food. National Foods, Australia’s largest dairy farm business, was sold to Japanese company Kirin Holdings in December and in July last year Queensland Cotton was sold to Singapore-based Olam International. The largest bid to date was the failed $3.3 billion bid for Nufarm by a consortium led by China National Chemical Corporation.

Despite its best efforts to corporatise, Dairy Farmers all but threw open its doors to foreigners on the acquisition trail late last year when it put itself on the selling block. It had reviewed the pros and cons of listing for one last time. Speculation is rife that an overseas bidder will now buy up all or parts of the Dairy Farmers business, simply because the most likely candidates – Murray Goulburn and Bega – will find it too hard to compete with the bidders.

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The most likely suitors include Goodman Fielder, New Zealand dairy co-operative Fonterra, Japan’s Kirin Holdings, Italian-owned Parmalat/Pauls, Singapore’s Fraser & Neave and Olam International, Europe’s Danone and Nestlé, and Saputo of Canada. Dairy Farmers was in the process of compiling a shortlist of bidders when The Diplomat went to print.

The next target of a foreign company is likely to be Australia’s biggest cattle grazing company, Australian Agricultural Company. Futuris announced its intention to sell its 43 per cent stake in the grazier late last year, and all of the potential buyers still circling are foreign.

It’s easy to see what all the fuss is about. Food is tight all over the world, simply because stocks are not keeping up with demand. And unlike in previous years, the mismatch is not purely the product of supply shocks.

Land and water scarcity are restricting supply, and under-investment in future production is helping to drive inventory levels to record lows. But exacerbating this deterioration in global supply is a decline in global food production subsidies and a significant diversion of land and crops to the rapidly growing biofuels industry in Europe, South America and the United States.

“Ethanol subsidies in the US are really skewing the market. Land that was used to grow wheat just a few years ago is now being used to grow corn, simply because operators have looked at returns per acre and gone with the crop that’s going to give the highest return,” says David Ginns, CEO of the Grains Policy Institute, a joint initiative of Graincorp and CBH Group.

Throw in the industrialisation of the developing economies and the ascendance of millions more consumers into the middle class, and the picture becomes a lot more complicated. The demand/supply fundamentals for soft commodities have changed. Craig James explains that demand stemming from population growth has a multiplier effect: as incomes rise in Asian countries, the demand for grain soars on the back of Westernising diets and the popularity of beef cattle, which are fed grain.

Peter Corish, the former president of the National Farmers Federation, now CEO of listed agricultural investment vehicle PrimeAg, believes that these structural changes mean high prices are here to stay. “The same factors that have driven the resources boom – strong demand from China and India – are behind the soft commodities boom. This boom is just beginning and we think it will have continued upside for the next decade,” Corish says.

Consider wheat. In some countries, wheat has become such a precious commodity that price controls have been implemented or considered. In Malaysia, it’s now a crime to export flour and other products without a licence, and in the Black Sea region as well as South America, price controls aim to keep prices low or make the export of soft commodities illegal.

Wheat futures nearly doubled by the end of 2007, and in seven of the last eight years, world wheat consumption has outpaced production, says Luke Chandler, senior commodities analyst with Rabobank. “Prices are at extreme levels when considered in light of their historical context. That’s not to say they’re anomalies. The fundamentals are strong, and a huge wave of investor money is flowing into commodities as a result,” Chandler says.

Global dairy prices doubled to all-time highs during 2007, and corn and soybean prices reached 11 and 34-year highs respectively. The Reserve Bank of Australia’s monthly index of commodity export prices (this measure includes beef, wheat, wool, cotton, sugar, barley, canola and rice) increased by more than 10 per cent in Australian dollar terms and by 27 per cent in US dollar terms during 2007.

The Commonwealth Bank agribusiness index of 15 listed rural companies is up 39 per cent for the 12 months to March (the S&P/ASX accumulation index fell by 7 per cent over the same period), and Deutsche Bank and Macquarie Bank have set up specialist investment funds to accommodate demand.

Corish is so bullish about the outlook for soft commodities that he has just set up the first ever listed soft commodities company in the world to take advantage of long-term demand for wheat, barley, chickpeas, sorghum and cotton, as well as livestock. His company, PrimeAg, which listed on the ASX on December 24, raised $300 million to buy land and water entitlements. PrimeAg has powerful backers. James Packer’s Ellerston Capital has emerged as the owner of about 10 per cent of the stock and the board of directors includes former Woolworths executive Roger Corbett.

Corish is also confident that the sector will continue to grow. “We think prices are running on a new paradigm level. We firmly believe that prices will be much higher than what we’ve seen in the past and that these prices will be sustainable.” Others are less confident that these prices are here to stay. “Will the new benchmark price of wheat be US$900 a bushel? It’s impossible to know because we’ve never been in this territory before,” Ginns says.

But the larger point is that as long as Australian agribusiness remains reluctant to grow beyond primary production they will remain subject to “the vagaries of the global commodity markets,” says Gastin. “We have the single desk for wheat and co-operative structures for dairy as a means of protecting farmers, but the best way to be protected is to have a value-added product that’s protected by a global brand.”

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Kristen Le Mesurier is a Freelance Journalist.