Sharemilkers and dairy farm owners depend heavily on milk prices for their bottom lines. A number of tools have been developed to reduce a farmer's payout risk and to increase cash flow certainty. Fonterra's fixed milk price is one of these tools.

Fonterra’s fixed milk price agreements are organised through Fonterra and the farmer simply agrees to a price that they will receive for their milk. Farmers are paid in accordance with the Fonterra Advance Schedule. However, they do not receive any further payments for those kilograms when their fixed milk price is reached. Fonterra's fixed milk price can only be used to fix half a farmer's expected milk production.

Taxation is one of the most significant factors to consider when taking out a Fixed Milk Price contract with Fonterra. Normally, when a farmer earns income from Fonterra the income is accrued in the period in which the milk is produced. For example, the milk cheque received in June is included in the financial statements for the May balance date. Although they relate to the previous season, the final season payments received from July to October are not rolled over into the next year. This is because the final milk price cannot be quantified until it is finalised in October after the season ends.

When a farmer enters into a Fonterra Fixed Milk Price agreement, the price of their milk (which is subject to the agreement) will be known at the balance date. This means milk that otherwise wouldn’t have been accrued into the financial statements, is required to be included. In the first year of a Fonterra Fixed Milk Price, additional taxes may be owed. The following year, the same income is not included in that season, so this is corrected. The additional tax to pay is a timing difference that is helpful to understand from a cashflow perspective.

If you have questions or want to know more about how the above will affect your business, please contact your business advisor.