Coles has secured a 10-year supply contract with dairy farmers for its house-brand milk - a central plank in its price war with rival Woolworths - shunting milk processor Lion out of the loop in what could be a big blow to the Japanese-owned conglomerate.
Bolstering its $1 a litre for unbranded milk promotion - launched on Australia Day two years ago, sparking outrage from farmers and some politicians - Coles on Wednesday said it had signed two contracts with Australian-owned east coast dairy farmer co-operatives.
A 10-year supply agreement with Devondale - starting in mid-2014 - will provide private-label milk to Coles' Victorian stores and some in NSW, while a five-year contract with Norco will cover the Coles-brand milk supply in NSW and south-east Queensland.
Effectively, Coles has punched through its Victorian processor, Lion, and inked a direct relationship with dairy producers, hopefully delivering efficiencies and cost savings while also rewarding 2600 dairy farmers by promising a premium to the farm gate price.
The new relationship between farmers and Coles comes as arch-rival Woolworths also investigates its own direct milk supply arrangements, and as governments and the competition regulator put both supermarket giants under the microscope for their dealings with Australian suppliers and the flow-on effect to primary producers.
But Coles boss Ian McLeod argued passionately yesterday that the new milk contract was not about winning any public relations war with suppliers or appeasing the Australian Competition and Consumer Commission, but rather an attempt to bring transparency as to how milk is priced at each stage of production in Australia and what farmers received.
"We have been thinking about it for quite a while, the primary driver has been the improvement in transparency and we now have a position where the [milk] processing as well as production is in the hands of dairy farmers themselves," he said.
"It secures the long-term future of the two largest milk co-ops in the country, so that's giving us an opportunity to manage a program where we can still offer affordable milk to our customers but we can make sure we can give best possible deal to the dairy farmers."
Mr McLeod said both co-ops would benefit from a longer than standard contract as well as economies of scale, giving them confidence to invest in their production facilities.
"This is a win-win to ensure we have got a secure future for the dairy farmers that are providing Coles-brand milk and also for the consumer in terms of affordable pricing of the product."
Lion, which processes 200 million litres of unbranded milk for Coles, has now lost private-label white milk contracts with Coles in Victoria, NSW and south-east Queensland, retaining Tasmania and far north Queensland.
Lion lost market share in dairy after the 2011 launch of $1 a litre unbranded milk, and might have to trigger a restructure and shed jobs to cope with the loss next year of its Coles deal.
Coles is not releasing the price per litre it will pay farmers, only saying it will be a premium to the farm gate price. Coles merchandise director John Durkan said: "It will be a better price that allows farmers to get a better farm gate price through a whole lot of efficiency, productivity and savings we generate in the end-to-end process."