Analysts say the fact Fonterra's looking at a profit toward the top end of its guidance despite a record milk price to be paid 'shows strong strategic execution' within the co-operative

Dairy co-operative Fonterra looks likely to both report strong earnings and pay a strong dividend for the first half of its financial year, analysts with Macquarie believe.

At the end of last week Fonterra provided a market update on its half year performance, ahead of announcement of the interim results due on March 20.

For the current milk production season, which finishes at the end of May, Fonterra is forecasting a farmgate milk price of between $9.50 and $10.50 per kilogram of milk solids. This gives a 'midpoint' of $10, which if achieved would be a record - beating the $9.30 in the 2021-22 season.

It's generally a slightly contradictory thing for Fonterra that the performance of the company can tend to suffer when the milk price is high - but of course this is due to the high cost of milk putting pressure in its operating margins.

But while Fonterra did, after achieving a 70 cents per share profit (and 55c dividend) last year, downgrade its expected earnings for this financial year to a 40c-60c range, saying that "after several years of strong earnings performance, the co-op exhausted its tax losses in FY24 and will now be paying tax". It said this change will reduce its reported earnings per share in future years, as Fonterra will have paid the tax on the cash to be distributed. Imputation credits will now be available.

However, in it's latest update Fonterra says it will achieve something in the top half of 40c-60c range.

And the Macquarie analysts says that upgrading earnings forecasts in light of a record milk price "is a good outcome and is showing business sustainability, we believe, which should flow through to strong dividends".

"The result is supported by [the] ingredients [division], but is despite a record milk price, which we think shows strong strategic execution within Fonterra."

The analysts suggest the fact that Fonterra thought it needed to provide an update ahead of the March 20 results announcement indicates Fonterra must be "tracking toward" the upper end of the forecast 40c-60c range.

They noted that the market consensus of what Fonterra would make prior to the update was 53c.

"We believe [Fonterra] must have a reasonably strong 1H of earnings banked and confidence in 2H, noting its sales book being well contracted for the season."

The Macquarie analysts noted that Fonterra has a 60-80% dividend payout policy - with up to half of this for the first half of the year.

"Assuming FY25 earnings were close to the top end [of the forecast range] and an 80% payout applied, this could see ~45-48cps for the full year."

The Fonterra co-operative shares can only be owned by farmer suppliers, but the separately NZX-listed Fonterra Shareholders' Fund [FSF] is open for investment by non-farmers who have no say in the co-operative but do share the economic benefits of the co-op's performance, IE through dividends.

At time of writing the FSF units were changing hands at $5.18 on NZX, up $1.70 (very nearly 50%) in the past 12 months. The Macquarie analysts have an 'outperform' rating on the units and have now upgraded their 12-month ahead target price for them from $5.74 to $5.96.

Fonterra is still pressing ahead with sale of its consumer brands business, for which it has been estimated shareholds may get around $3 billion, or about $2 per share, for.

The analysts say progress on this sale "remains a key catalyst".

"We have previously noted scope for further capital returns, especially if the Consumer business is divested."