Murray Goulburn has farmers on a knife edge

The nation's biggest dairy processor, has set its opening milk price at $4.70 a kilogram of milk solids, which farmers argue is below the cost of production and could force some to leave for rival companies or quit their farms.

The pricing decision, which is about a fortnight earlier than usual, came as Murray Goulburn (MG) announced a wide-ranging strategic review, which will include its capital structure and controversial profit sharing mechanism.

The news pushed shares in MG’s unit trust down 14.5 per cent to a record low 73.5¢, well below their 2015 issue price of $2.10.

Several farmers and industry groups argued MG’s price was well below the cost of their production.

United Dairy Farmers of Victoria president Adam Jenkins said anything below $5/kg was "pretty challenging for farmers".

He said farmers were waiting to see the response from rival processors including Fonterra, Warrnambool Cheese & Butter Factory and Bega Cheese.

Traditionally, MG sets the industry price, with processors either offering similar prices or marginally more to attract farmers.

There is an expectation among many farmers that processors could be more aggressive and lift prices beyond $5/kg, to steal market share and grow supply for their own recent expansions.

"The next three weeks will be one of the most pivotal points for the industry for some time," Mr Jenkins said.

One dairy industry source said "everybody else will be above $5/kg".

"Murray Goulburn will lose more milk and may have to shut down more factories," the source said.

Managing director, Ari Mervis, who joined the troubled processor in February, declined to speculate on whether he expected rival processors to up the ante and put more pressure on MG, which has already lost about one fifth of its annual milk intake after its disastrous decision last year to retrospectively slash milk prices late in the season.

The co-operative said last month it was shutting three factories.

"I can't speculate on what their opening price will be," Mr Mervis said. 

“Our intention was to be open and transparent and as early as possible in order to restore the confidence and trust of our supply base."

He did not want to speculate on what aspects of MG's structure may change, saying it was simply an appropriate next step in his early tenure to examine the business and its strategy.

"I'm not assuming what will be on the other side of the exercise’," Mr Mervis said.

“I would just like to look with a fresh set of eyes and I think it is my responsibility quite frankly to do that.”

"It doesn't indicate directly that the profit-sharing mechanism is in question but it does say that we recognise that over the course of the past 12 months there has been two deviations from the profit-sharing mechanism … and we just need to revisit it and ensure that it is achieving the desired and intended outcomes as originally formulated."

Under Murray Goulburn's capital structure, a profit-sharing mechanism is in place that links the milk price to the amount of profit available to be paid as dividends.

Mr Mervis would not be drawn on whether the price MG was offering was below production cost.

"It's almost like saying how much does it cost to run a household, it depends whose household," Mr Mervis said.

"It certainly is above this year's pricing, which we predict is an underlying $4.60 to $4.70 with a closing price of $4.95/kg."

MG's price indicates a full-year payout of between $5.20/kg and $5.40/kg, which is below the $5.30 to $5.70/kg forecast by Fonterra.

Fonterra and other processors are expected to set opening prices within the next few weeks.

Farmers use an opening price to budget for the year and assess production rates and farm viability.

Mr Mervis is under intense pressure to repair MG's tattered reputation after previous management delivered a stinging profit downgrade in April last year as it retrospectively slashed milk prices.

The disastrous decision, which included forcing farmers to repay the co-operative through lower milk payments over three years – a plan abandoned last month – forced farmers to cut production, quit their farm or abandon MG for rival processors.

It also triggered probes by a senate committee, the Australian Securities and Investments Commission, the Australian Competition and Consumer Commission, and generated class actions which are ongoing.

Mr Mervis said the processor had lost about about 800 million litres.

Sixty per cent of this was to other processors, 25pc was the result of lower production due to poor weather and 15pc was from farmers quitting the industry or retiring.