Category crunch: Industry responds to challenge in UK liquid milk
Arla's Cravendale is the only white milk brand that has been able to gain significant traction in the UK
The downward movement of liquid milk prices has placed margins in the category under mounting pressure. In part two of our Category Crunch, Katy Askew looks at how the country's three largest milk processors - Dairy Crest, Arla and Robert Wiseman - are responding to this challenge.
Manufacturers operating in the UK liquid milk market are grappling with declining milk prices at a time when the entire food industry is being squeezed by escalating input costs.
There are those in the industry, however, who believe that, if this trial by fire can be weathered, those who come out the other side will be well-placed to benefit as conditions improve.
"Margins are under pressure. We are in a cycle where it is a very tough business environment. Our job in a tough environment is to be the supplier of choice and to be better than our competitors. If we can do that we should be in a good position to emerge well placed when trading conditions ease. We are optimistic. We are upbeat. We confident," a spokesperson for Robert Wiseman Dairies tells just-food.
The beginnings of sector consolidation and rationalisation can already be noted, as weaker players are squeezed out and firms look to benefit from the economics of scale by merging operations.
Since the beginning of the year, two of the country's big three dairy groups have been involved in M&A activity.
In January, Robert Wiseman was taken over by German dairy major Muller for GBP280m (US$435m). At the time, the companies emphasised the strategic logic of combining two complimentary product portfolios and stressed the potential for generating synergies and cutting costs.
Last week, milk co-operatives Arla Foods and Milk Link also unveiled plans to merge their businesses in a move that would make Arla the largest player in the UK dairy sector. Speaking to just-food, Arla UK CEO Peter Lauritzen and Milk Link CEO Neil Kennedy cited greater scale and the complimentary fit of the two businesses as key factors driving the deal.
By integrating Milk Link's cheese-focused business into its own dairy operations, Arla will extend its ability to balance the amount of milk it processes for the liquid milk market, providing the company with a greater degree of control over profits and margins.
This mechanism has greatly benefited Dairy Crest in recent years, as it has looked to its cheese and spreads brands to bolster group profits in the face of declining margins in liquid milk.
In a further bid to build up its scale, Arla is investing GBP150m in what will be one of the world's largest dairies, located in Aylesbury.
The facility will have the capacity to produce 10% of the milk needed in England. While it is expected Arla will consolidate some of its existing capacity when Aylesbury comes online, the opening of the "mega dairy" could actually increase milk supplies in a market that is already glutted.
Meanwhile the current sector number one, Dairy Crest, has indicated it is taking the first steps to rationalise production levels by shedding unprofitable volumes, with the majority of sacrificed business likely to come from the middle ground.
"You will find over the next few months, and there is evidence of this already, that we will consciously make choices not to trade with certain customers. We will only trade with people that are prepared to pay us a fair price for the high-quality product that we deliver to them," CEO Mark Allen says.
As Dairy Crest looks to "right-size" its business, it is making cuts at the manufacturing level. In recent months the company has announced a swathe of job cuts at its creameries, including the closure of two dairies.
The company has also reduced its field sales team by merging the functions of its dairis sales teams - originally divided by customer base - into one division.
Indeed, cost-cutting looms large for all three of the country's largest dairy groups.
"Keeping production costs down is a pre-requisite. Nobody wants to pay more than they have to for products of the same quality, so you've got to be efficient," Milk Link's Kennedy tells just-food.
For Wiseman, there is an "inextricable link" between sustainability and efficiency. "We are controlling what we can control. We are very focused on our own costs and our own efficiencies. We have taken a range of very significant measures to ensure that we continue to be the lowest cost manufacturer in Britain - and that includes investment," a spokesperson for the group says.
Pointing to the firm's milk processing facility in Bridgewater in Somerset, the spokesperson suggests such investment goes hand-in-hand with advancing Wiseman's environmental goals. In Bridgewater, Wiseman made a "significant" investment in installing reverse osmosis filtration technology that allows the site to recycle water leaving the on-site effluent treatment plant. According to the company, this enables it to reuse 200,000 litres of water per day, generating "sizeable" long-term cost savings.
Wiseman is thus focused on "doing more with less" and the spokesperson insists innovation in packaging and technology is key to improving efficiency.
Another area of innovation for Wiseman comes from the launch of a range of A2 branded milk aimed at lactose intolerant consumers in the UK through a joint venture with New Zealand dairy firm A2 Corp.
"It is a new departure for us. The thinking behind bringing A2 milk into the UK is in Australia, where is has been a feature of the dairy marker for a number of years, it has succeeded in brining people back to dairy...It attracts reluctant dairy avoiders - those who have digestive issues - back to the market," the spokesperson says.
However, the spokesperson concedes A2 is "never going to be a huge seller".
"In Australia it has succeeded in achieving 2-3% of volume sales. We would be very happy if we hit that here."
These realistic expectations for the brand reflect some of the difficulties in building a brand in the liquid milk category.
While Dairy Crest did operate a brand based around omega 3, St Ivel Advance, external affairs director Author Reeves says the company chose to quit the business "a few years ago" because it was difficult to gain traction with consumers and the brand was not profitable enough.
"It needed a great deal of marketing expenditure and couldn't pay back. We would rather invest our marketing expenditure in our five key brands that have generated good top line growth," Reeves reveals.
In fact, to date only Arla has found success with a white milk brand in the UK with its Cravendale filtered product. And, even then it should be noted this is a niche product, with filtered milk only representing 7.7% of liquid milk sales.
According to Peter Lauritzen, CEO of Arla UK, the success of Cravendale is based on Arla's investment in brand building and the filtration process that provides the product with its unique selling points: its longer life and distinct "clean" taste.
"We will certainly continue to invest in the Cravendale brand going forward and we do expect to see volume growth in that brand," Lauritzen tells just-food.
A reluctance to commit capital to brand-building is not the primary reason why dairy companies have struggled to build brands in liquid milk, which is dominated by own-label products.
The migration of sales into supermarkets from doorstep delivery was an own-label process that occurred when the UK's retail multiples - notably Tesco and Sainsbury's - offered milk at lower price point under their own brands. Dairies were thus always at a disadvantage when it came to convincing consumers they should pay a premium for branded products.
Shore Capital analyst Clive Black suggests doorstep delivery is a sales chanel in "structural decline".
Doorstep deliveries witnessed a 7.5% drop in sales volumes in the year to 15 April, figures from Kantar Worldpanel show. Sales value during the period declined 7.2% to GBP227.7m, the research firm reveals.
"I don't think it is inconceivable at all that doorstep will eventually disappear from the UK," Black tells just-food.
However, Dairy Crest - the only major dairy that remains committed to doorstep delivery - seems unlikely to quit the channel without a fight, suggesting it is one way it can differentiate its liquid milk product and convince consumers to pay a price premium for an enhanced service.
"We are really pleased with Milk and More," Reeves insists. With about 200,000 regular users, Milk and More covers "from Liverpool south" and generates weekly sales of GBP1.2m, Reeves says. Consumers can order online and the delivery business offers complimentary products along side milk, carrying around 300 lines.
Significantly, Reeves adds, Milk and More is generating a profit. "It is profitable now. We have a good infrastructure across the country of depots, milk men and a distribution network and it makes a decent profit. It is a business we want to grow," Reeves says.
As dairy companies face a period of intense pressure on the profitability of their liquid milk businesses they are attempting on the one hand to manage margins by reducing costs, balancing production levels and sales volumes. On the other, the UK's three largest dairies are seeking ways to differentiate their products in the eyes of their customers and end consumers.
Nevertheless, as the sustained pressure on margins continues, it is not unimaginable to suggest we could see further consolidation in the sector. While small and mid-sized dairies are most likely to be impacted by this pressure, it remains to be seen whether a situation could arise when the big three will be wheedled down to the big two.
Click here for part one of the Category Crunch on the UK liquid milk sector.
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