Milk price hike to hit dairy companies' profit margins

Profit margins of dairy companies are likely to be come under increased pressure due to the hike in the cost of raw milk, following the minimum purchase price of the commodity fixed by the government of Maharashtra.

The state government on Thursday announced a Rs 5-per-litre subsidy to dairy companies with a rider. In order to avail this subsidy, dairy companies need to buy raw milk from farmers at Rs 25 a litre. As against their average cost of milk procurement of Rs 17-18 a litre, dairy companies would now have to shell out at least Rs 20 a litre to claim the Rs 5 subsidy from the government, so that the farmer can be paid Rs 25 a litre. This means, dairy companies would have to pay Rs 2-3 a litre more to avail this subsidy.

The additional payment means a proportionate decline in profit due to dairy companies’ inability to pass on this price hike to consumers. Due to seasonality, dairy prices need to remain stable for consumers. So, dairy companies mostly play around with margins of distributors, retailers or their own to reduce the impact of sharp price volatility in milk prices.

“Dairy margins would come under pressure albeit marginally, due to the increase in the cost of raw material. But the impact of milk price hike would not be severe,” said Dhiraj Mistry, an analyst with Emkay Global Financial Services Ltd.

Following massive protests from milk farmers, the government of Maharashtra on Thursday agreed to their demand and fixed a minimum purchase price of milk at Rs 25 a litre effective July 21. The government also announced a subsidy of Rs 50 a kg to intermediaries in the dairy business, engaged in the production of value-added products such as skimmed milk powder (SMP).

Interestingly, milk farmers in Gujarat and Karnataka are getting Rs 29-30 a litre and Rs 24-25 a litre respectively as against Rs 16-18 a litre received by their counterparts in Maharashtra, where milk prices slumped from Rs 27-28 about a year ago.

To minimise the impact, however, dairy companies are planning to cut distributors’ and retailers’ margins which they had increased during the last milk price fall. Despite a severe decline in milk procurement prices, dairy companies had raised distributors’ and retailers’ margins without passing on the price decline to consumers. Also, a substantial portion of the profit generated through low raw material cost, was compensated with the sharp fall in the prices of value added products like SMP.

Selling currently at Rs 140 a kg in the domestic markets, dairy companies have been incurring a loss of Rs 50 a kg in SMP. Dairy companies led by the Gujarat Cooperative Milk Marketing Federation (GCMMF) which sells dairy products under Amul brand holds around 200,000 tonnes of SMP of which Amul alone contributes over 50 per cent.

Indian dairies, however, have failed to export SMP to the world market due to global oversupply.
“While the government has accepted our demand to raise milk procurement prices by Rs 5 a litre, its implementation would be interesting to see. The government has not yet issued any notification for the same yet,” said Yogesh Pande, Spokesperson, Swabhimani Shetkari Sanghatana (the farmers’ body which spearheaded milk farmers’ protest in Maharashtra.

Meanwhile, dairies in the business of value added products are set to benefit from the Rs 50 a kg subsidy offered by the government.

“Earlier, the subsidy was announced on exports. But, the same was revised to incorporate domestic sales also. Thus, companies with value added products are set to benefit,” said Devendra Shah, Chairman, Parag Milk Foods.

India’s milk production rose by 4 per cent to hit the record of 165.4 million tonnes for 2017-18.
To promote dairy exports from India, however, the Directorate General of Foreign Trade (DGFT) had on July 13 announced 10 per cent export incentives on milk powder, casein and other dairy products under the Merchandise Exports from India Scheme (MEIS).

Also, the government raised import duty to 40 per cent from 30 per cent on whey milk powder on March 27 to restrict its import.

Reacting to the announcement, shares of Parag Milk Foods declined marginally by 1.28 per cent to close on Friday at Rs 280.65 apiece. Similarly, stocks of Prabhat Dairy also declined by 1.27 per cent to close at Rs 148.20 apiece on Friday.

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