Warrnambool suitors swoon, but stalemate threat remains

When I wrote about Warrnambool Cheese & Butter recently I noted the potential for a $9-plus-a-share bid.

The board has now received three offers at or about $9 a share.

But the risk of stalemate remains, with one bidder and substantial shareholder declaring its implied sub-$9-a-share bid final. Separately, a substantial and sustained improvement in WCB's earnings capability is needed to justify the offers. WCB is a valuable prize. It is an export-focused, soft-commodity business with operations in one of Australia's best dairy regions, it has good port access and is next door to a region that the Asian Development Bank estimates will contribute a further billion people to the world's middle class by 2030. The argument that Asia will continue to lead growing demand for dairy commodities is one I support.

And 2013 has seen a rapid rise in dairy commodity prices. Data reported by leading global dairy commodity auction platform GlobalDairyTrade indicates a 45 per cent increase in average US dollar dairy commodity prices year to date, as supply has been constrained by droughts in key production regions.

This heady combination has seen WCB's suitors swooning.

But there is another side to the coin that has seen Australia's key export dairy products of cheddar and skim milk powder achieve average annual US dollar price rises of only 3.9 per cent and 4.6 per cent respectively since 1990, according to data compiled by GlobalDairyTrade and peak industry body Dairy Australia. Farmers globally have proven adept at increasing their milk production over time. Dairy Australia reports that the average Victorian cow was producing 3012 litres of milk a year in 1980, and that this had more than doubled to 6054 litres a cow in 2012.

With continually improving production methods having kept dairy commodity price rises muted in recent decades, despite a rapidly rising global population, WCB's bidders must be banking on a break in this historical equilibrium.

WCB is likely to see a very strong improvement in earnings per share in 2014, with Bloomberg consensus forecasting 175 per cent growth. But WCB shares are now trading at the equivalent of 25 times this greatly improved earnings outlook.

Another ASX-listed agribusiness that is subject of a takeover offer, GrainCorp, has received a board-endorsed bid valuing its east-coast grain handling business at 20 times consensus forward earnings. WCB's bids represent a substantial 25 per cent premium to Archer Daniels Midland's GrainCorp offer.

WCB's largest shareholder with 18.4 per cent, Bega Cheese, has now made its offer valued at $8.93 a share. WCB's second-largest shareholder, Murray Goulburn, has bid $9 cash a share but still runs the risk of regulatory competition issues. Meanwhile Canada's Saputo is yet to report a holding in WCB.

Warrnambool's shares closed at $9.20 on Thursday.

GrainCorp's recent share price fall on reports the government might block ADM's bid is a timely reminder of the share price risk if a takeover is not completed. The risk of a stalemate or failed bids remains for those still holding WCB's shares.