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Government sends letter to dairy farmers

The Government has sent all dairy farmer shareholders of Kiwi Dairies and New Zealand Dairy Group co-operatives a letter setting out clearly the regulatory package that would be implemented if the proposed mega-merger goes ahead, Agriculture Minister Jim Sutton said today.

Farmers vote in eight days' time on whether the proposed merger of the two companies and the Dairy Board should go ahead.

Mr Sutton said he had written to farmers to ensure they had an accurate idea of what the proposed regulatory package was all about.

"If the shareholders vote 'yes', GDC will buy nearly all the raw milk produced in New Zealand. The Government is concerned that this dominance creates the possibility that the company may act like a monopolist which could raise the price of milk to consumers, reduce returns on the shares of producers, and become less innovative than in the past.

"To reduce these risks, the Government has developed the regulatory package, which will be introduced with the legislation enabling the merger."

Mr Sutton said whether the merger proceeded was in the hands of the shareholders of NZ Dairy Group and Kiwi Dairies.

"In deciding to facilitate the merger, the Government has not sought to advise farmers on the merits or otherwise of GDC's proposed business plan and strategy. This is a matter for the shareholders of the dairy companies themselves to decide."

He said that, in theory, other alternative structures were available.

"Nevertheless, the present proposal is the one the industry has put to the Government, and the Government has tried to react constructively to it. It is for the Kiwi Dairies and Dairy Group shareholders to decide whether it proceeds."

The vote is on June 18

ENDS


8 June 2001


To: The shareholders,
New Zealand Dairy Group and Kiwi Co-operative Dairies


Dear shareholder


As a shareholder in one of the companies proposing to form Global Dairy Company, you have a major decision to make on 18 June.

It is widely believed that the dairy industry cannot go on with the same structure it has now. The Government is concerned to ensure clear and timely change for the industry but believes that the industry has the right to decide for itself on the direction and speed of that change.

Industry leaders have proposed that Kiwi Co-operative Dairies and New Zealand Dairy Group merge to form Global Dairy Company (GDC) which would subsequently absorb the New Zealand Dairy Board.

Alternative structures are in theory available. Nevertheless, the present proposal is the one the industry has put to the Government, and the Government has responded constructively to it. It is for Kiwi Dairies and Dairy Group shareholders to decide whether it proceeds.

GDC has asked the Government to ensure that the business acquisition rules of the Commerce Act not apply to the merger. The Government has agreed to that exemption. Legislation to facilitate the merger will be introduced into Parliament this month.

If the shareholders vote "yes" and the merger proceeds, GDC will buy nearly all the raw milk produced in New Zealand. The Government is concerned that this dominance creates the possibility that the company may act like a monopolist, which could raise the price of milk to consumers, reduce returns to dairy farmers, and limit innovation.

To reduce these risks the Government has developed a new regulatory package for the industry which will be introduced with the enabling legislation.

This package is designed to ensure that the New Zealand dairy industry behaves in as competitive a fashion as possible. The package would mean that, once the merger is complete, GDC and the rest of the industry would be covered by the full Commerce Act. At the moment, the Dairy Board is partly exempt from that Act.

The package includes:
„h Open entry and exit of farmers to GDC;
„h Reasonable ease of movement to other processors;
„h Divestment of New Zealand Dairy Foods;
„h Guarantees for non-participating cooperatives; and
„h Removal of legislated single desk exporting by the Dairy Board.

Details are summarised in the attached note.

The full package and further information, including copies of the papers considered by Cabinet on the merger, can be found at http://www.maf.govt.nz/dairymerger. Hard copies can be obtained from MAF on 04 474 4106.

As noted above, whether or not the merger proceeds is in the hands of the shareholders of New Zealand Dairy Group and Kiwi Co-operative Dairies. In deciding to facilitate the merger, the Government has not sought to advise farmers on the merits or otherwise of GDC¡¦s proposed business plan and strategy. This is a matter for the shareholders of the dairy companies themselves to decide.

Officials are currently drafting the legislation for introduction this month. This is being done now to ensure that the proposed timetable can be followed, provided that the necessary level of support is forthcoming from producer shareholders.

Following introduction, the Bill would be referred to a Parliamentary Select Committee. You would have the opportunity to make submissions to the Committee, should you wish to do so. This timing would allow for the Bill to pass into law in September.

I hope you will find this information useful.


Yours sincerely

Hon Jim Sutton
Minister of Agriculture

The dairy regulatory package in brief

Open entry and exit to GDC

At the heart of the regulatory package is the requirement for GDC to offer fair market entry and exit to farmers and sharemilkers wishing to supply milk to it or any other processor. This should ensure that conditions of open competition prevail as much as possible in the dairy industry.

The entry and exit provisions are designed to provide incentives for GDC to set fair milk and share prices and to remain innovative. For instance, if GDC set its milk price too low, and its share price too high, some suppliers may leave and supply a competitor, or even form a new cooperative. If it set its milk price too high and its share price too low, there may be more suppliers offering milk than the company could profitably process and market.

These entry and exit prices would have to be published every year.

GDC would have to start posting share prices from, at the latest, 15 December each year. After that, it could post share prices whenever it chose.

Generally, GDC would have to accept applications for supply made by 28 February in any year, for the season starting on 1 June of that year, subject to quantity and quality requirements. GDC's acceptance of that supply would be on the basis of plus or minus 7.5 per cent of its published offer share price, unless the supplier chose to take the final June share price.

In certain circumstances, where GDC had too much milk, it would be able to defer applications for supply until the following season.

GDC would not have to accept milk from any farmer where collecting the milk was more expensive than collecting it from existing farmer-suppliers in the same area. Catchment areas would be centred around factories. If GDC decided to adopt a policy of paying farmers different prices depending on where they are, it would have to treat farmers who are at similar distances from factories the same way.

GDC would normally be required to pay exiting shareholders cash or capital notes.

However, if more than a net 5 per cent of shares had to be paid out to farmers leaving in any one year, and paying this in cash or capital notes could affect the company's ability to operate properly, GDC would have discretion whether to pay in cash, preference shares, capital notes, or a combination.

The regulations may provide for a disputes body to decide on disputes over entry and exit.


Raw milk market and other dairy markets

The regulations should ensure that farmers can switch easily to GDC¡¦s competitors rather than being locked into long supply contracts. This should limit GDC¡¦s ability to use its dominant position in the marketplace to control the supply of raw milk.

GDC would have to offer one-year supply contracts to all suppliers.

It could offer longer-term contracts, but in any given area, in any given season, at least 33 per cent of contracts would have to expire at the end of the season or be able to be stopped by farmers without penalty.

Farmers and sharemilkers would be allowed to supply up to 20 per cent of their milk to other processors without discrimination. Milk for different companies would have to be stored in separate vats.

Under the regulations, GDC would have to supply raw milk to small processors on competitive terms. Initially these rules would govern only the raw milk market, though the Government would reserve the power to make rules for other dairy markets.

An enforcement body may be established to enforce these rules.

New Zealand Dairy Foods divestment

In order to increase the level of domestic competition, the merger authorisation would be conditional on divestment of New Zealand Dairy Group¡¦s 50 per cent shareholding in New Zealand Dairy Foods.

Non-participating co-operatives

If Tatua and Westland dairy co-operatives decided not to join the merger, it would be necessary to address a range of issues, such as quota rights, transitional arrangements and compensation for their shareholding in the New Zealand Dairy Board. Negotiations are ongoing between GDC and the smaller co-operatives on these issues.

Exports ¡V single desk transition and quota

The Dairy Board¡¦s single desk export status would end following the merger.

GDC would be allocated exclusive access to quota markets for six years, until 2007, and then a new system would be phased in over four years. The new system would be designed to get the highest returns for New Zealand and to ensure the industry as a whole benefits from those returns.

Arrangements for Tatua and Westland to export to quota markets in the initial period would be set in contracts with GDC.

Terminating restrictions on GDC

The regulations restricting GDC¡¦s activities would be lifted once the company¡¦s market power decreased.

For the North Island, the threshold would be at the point where independent manufacturers were collecting 12.5% of milksolids per season. For the South Island, the threshold would be independent manufacturers collecting 65 million kg of milksolids per season, with at least one independent manufacturer east of the Southern Alps collecting at least 25 million kg of milksolids per season.

Industry good issues

The Livestock Improvement Corporation (LIC) would become a co-operative owned by farmers and sharemilkers. Global Dairy Company, along with other processors, would contract with LIC for access to the dairy herd database.

The Dairy Research Institute would transfer into GDC.

Dairy Industry Good Inc would collect levies for industry good activities and would commission providers to do that work. GDC/New Zealand Dairy Board would provide transitional funding for these activities for a fixed period.

The need to continue regulating herd testing and the collecting and disseminating of data for the national breeding objective and for animal traceability requires further consideration.

GDC ownership and corporate form

All co-operative dairy companies (including GDC) will have to allow sharemilkers to buy shares from their farm owners, on the basis of mutual agreement. If the merger does not go ahead, this change will still happen.

A 50 per cent vote of GDC¡¦s Shareholders¡¦ Council would be needed to change GDC¡¦s co-operative status, as well as a special resolution of the shareholders in accordance with GDC's constitution.


Tax implications

There are a number of tax issues associated with the merger.

The Government has agreed that:

- The New Zealand Dairy Board¡¦s available subscribed capital would be transferred to GDC as part of the merger;
- Tax losses and imputation tax credit balances of New Zealand Dairy Group and Kiwi Co-operative Dairies would be transferred to GDC;
- The share swap as part of the merger would not be treated as a dutiable gift or dividend;
- The transfer of property in the Dairy Research Institute to a taxable entity would not be taxed; a cost basis for the future tax treatment of that property would be provided for;
- The post-conversion Dairy Board would be entitled to claim tax deductions for accrued expenditure incurred before its conversion to a company under the Companies Act; and
- Farmers¡¦/sharemilkers¡¦ shares in the post-merger LIC would not be treated as dutiable gifts or dividends.


The full regulatory package and further information, including copies of the papers considered by Cabinet on the merger, can be found at http://www.maf.govt.nz/dairymerger. Hard copies can be obtained from MAF on 04 474 4106.


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