On June 30, YoCream announced the first soft-serve frozen yogurt with beneficial probiotics.
Dairy: Udderly Irresistible
By Patrick Seitz
Investor's Business Daily
On Friday July 17, 2009, 6:04 pm EDT
Investor's Business Daily's Food-Dairy Products industry group has been a top performer in recent months.
But it's a small group, with only eight companies, and that can lead to volatility.
Take American Dairy (NYSE:ADY - News). Shares in the China-based dairy products company surged 139% from May 14 to June 11 after a strong earnings report, but tumbled 44% on July 13 after the company issued a weak growth outlook. It now trades near 26.50, after hitting a 52-week high of 44 on June 11.
Demand for milk and milk-based products, including infant formula, cheese and yogurt, has remained strong during the recession. Innovations such as milk-protein products and functional yogurts that can aid digestion and immune systems also have helped sales.
As of Friday, dairy product stocks ranked No. 3 among IBD's 197 industry groups, up from No. 133 six months ago.
1. Business
Dean Foods (NYSE:DF - News) leads IBD's dairy products group. As the nation's largest processor and distributor of dairy products, the firm generates more than $12 billion a year in sales.
Dean Foods produces milk, coffee creamers, cottage cheese, ice cream and other dairy foods, plus fruit juices and soy milk, which is derived from soybeans.
Other large players include Montreal-based Saputo and Moscow-based Wimm-Bill-Dann (NYSE:WBD - News).
Saputo is the largest dairy processor in Canada and the 11th largest in the world. It sells milk, cheese, yogurt, snack cakes and cookies. In the U.S., Saputo is one of the top three cheese producers. It generates annual sales of about $5.2 billion.
Wimm-Bill-Dann is the market leader in dairy products and children's food in Russia and a leading player in the market for juices and other non-alcoholic drinks in Russia and former Soviet Republics. It has annual sales of about $2.8 billion.
Other foreign companies in the segment are American Dairy and Synutra (NasdaqGS:SYUT - News), both of China. The IBD group also includes Lifeway Foods (NasdaqGM:LWAY - News) of Morton Grove, Ill., which makes a probiotic dairy beverage called kefir; and YoCream International (Other OTC:YOCM.PK - News) of Portland, Ore, which makes frozen yogurt, fruit smoothies and other beverages, custard and ice cream.
Analysts say the successful companies in the sector have large-scale production and unique products.
Being able to place large orders with milk suppliers gives top-performing companies an edge.
"Scale has its benefits," said Ann Gilpin, an analyst with Morningstar. "You get higher returns on your invested capital because your fixed costs are spread over a larger base. You get some pricing power to some extent over your suppliers, because you're such a big customer."
Since milk is a commodity product, food companies work to differentiate their offerings with distinctive flavors and enhanced health and nutrition benefits, she says.
Name Of The Game: In the dairy products industry, it's good to be big and have exclusive products to attract and retain customers.
2. Market
Holy cow! Dairy product makers have been on an acquisition binge.
Market leaders Dean Foods and Saputo have gained economies of scale by buying other companies.
"The industry is going through another round of consolidation," James Dudlicek, chief editor of Dairy Foods and Dairy Field Reports.
Dallas-based Dean Foods has grown quickly through acquisitions.
On July 6, Dean completed its $455 million purchase of the Alpro division of Belgium's Vandemoortele. Alpro is the European leader in branded soy-based beverages and food products. The acquisition of Alpro establishes Dean as the leader in soy-based beverages and food products worldwide, with top brands Silk in North America and Alpro soya and Provamel in Europe, and over $1 billion in combined retail sales.
Also this year, Dean acquired milk operations from Foremost Farms in Wisconsin and Heartland Farms in California.
Saputo also has been acquisitive lately.
On June 23, Saputo said it intends to acquire the operations of F&A Dairy of California, which manufactures, sells and distributes cheese -- mostly mozzarella and provolone -- and whey products from its facility in Newman, Calif. F&A Dairy of California had $140 million in sales last year.
In December, Saputo bought Neilson Dairy, the dairy division of Weston Foods Canada, for $372 million. Neilson produces and sells milk, butter, cream, yogurt and other dairy products, plus juices, primarily in Ontario.
In April 2008, Saputo bought the operations of Alto Dairy Cooperative, which makes Italian-style cheeses such as mozzarella and provolone and American-style cheeses like cheddar and Monterey jack, as well as whey products. Saputo paid $160 million for the Wisconsin-based business.
In October 2007, Wimm-Bill-Dann bought Georgian Foods, which is based in Tbilisi, Georgia. Georgian Foods is the third largest dairy producer in Georgia, making milk and cheese for Georgia, Armenia and Azerbaijan.
3. Climate
While milk processors have performed well in the current market, milk producers are struggling.
The U.S. saw a run-up in raw milk prices in 2006 through the first half of 2008, Gilpin says. Milk prices soared largely because of demand from China.
That spurred dairy farmers to increase production. Now the cyclical business has an oversupply of milk. So dairy farmers are shipping cows off to become hamburger to reduce milk supply.
A year ago, milk prices at the farm level were about $18 a hundredweight (100 pounds), says Jerry Dryer, editor of Dairy & Food Market Analyst. This year, milk prices are in the $11 to $12 range per hundredweight.
"Milk producers are getting pressed very hard," Dryer said. "Cost of production is probably $15 or $16 per hundredweight."
Still, demand for milk and dairy products has been stable during the recession.
"Cheese tends to move towards the center of the plate in tougher economic times, i.e. grilled cheese, mac and cheese, casseroles and so forth," Dryer said.
People are trying to maximize their nutritional dollar; milk and dairy products offer a "formidable nutritional bang for the buck," Dudlicek said.
Even ice cream is considered somewhat recession proof, because it's seen as "an affordable indulgence," he said.
However, demand has lessened for some premium items such as organic milk because many people don't want to pay extra for it now, Gilpin says.
4. Technology
Dairy processors continue to innovate with new products that promise nutritional benefits.
Lifeway, for instance, sells a kefir dairy beverage that has 10 live and active probiotic cultures with nutritional and health benefits. Most regular yogurts have only two or three of these "friendly" cultures, the company says.
On June 30, YoCream announced the first soft-serve frozen yogurt with beneficial probiotics.
Dairy processors also are coming out with a stream of new products like "milk protein isolate" and "whey protein isolate." Whey is a by-product of cheese-making.
Long popular with bodybuilders, the protein isolates now are seen as dieting aids because they're a low-calorie way to sate the appetite, Dryer says.
Meanwhile, milk producers are turning to technology to help control costs, says Dairy Foods' Dudlicek.
"New routing software, hybrid truck technology and advanced wastewater treatment systems are among the ways processors have been able to 'go green' and save money to boot," he said.
5. Outlook
Despite the ongoing recession, consumer demand for dairy products remains strong.
Products such as cheese and yogurt continue to sell well in the U.S.
But per-capita milk consumption has been steadily declining in the U.S. as substitutes like soy milk, orange juice with calcium and other fortified beverages gain acceptance.
Meanwhile, milk consumption in Russia has been growing because dairy products are more widely available there now. Same story with fruit juice and baby food. That bodes well for Wimm-Bill-Dann, says Morningstar's Gilpin.
Commodity milk prices should begin to rise at the start of 2010 as the supply contracts and the economy improves, analysts say. That will be good for milk producers, but milk processors will need to focus on value-added features like nutritional functionality and convenient packaging to benefit.
Upside: Dairy processors are riding out the recession in good shape. Raw milk suppliers are struggling, but things should improve when the supply diminishes and the economy rebounds. New dairy products with nutritional benefits could boost the industry.
Risks: Consumers have a greater ability now to substitute food and beverage products for alternatives. Changing tastes could spur consumers to move away from dairy products.
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