Dairy Crest confident despite contract loss

The company said that first half sales were £676.4 million, up slightly from the £675.9 million in the same period a year earlier, with improvements at the core consumer foods business offset by declines in the foodservice operations, which includes the doorstep delivery service and dairy ingredients.

But the second half of the year will see Dairy Crest lose its contract to supply the Tesco and Asda supermarket groups, putting its liquid milk business under severe pressure, not least because it will have to operate at well below current capacity levels.

Dairy Crest has made it clear that it believes focusing on building its branded business is the best way forward, and the second half is likely to see a continuation of its recent policy of increased marketing expenditure.

The Country Life butter brand, now wholly-owned by Dairy Crest after it bought out minority shareholders back in September, is likely to be the biggest recipient in terms of marketing cash, with the brand's strong consumer acceptance seen driving sales in Dairy Crest's spreads business, already its most profitable. Country Life packet and spreadable posted gains of 16 per cent and 34 per cent over the first half of 2003.

A new cheese creamery, which came on line in the first half, should also allow Dairy Crest to step up production of another of its strong brands, Cathedral City premium cheddar. The brand lifted volumes by 30 per cent over the first half.

The decision to focus on building brands was helped by a solid performance from the consumer foods business, which reported a 2 per cent increase in turnover to £443 million. But the spreads market remains competitive, with the Clover and Utterly Butterly brands managing nothing better than maintaining their market share during the half, despite increased advertising expenditure.

More advertising cash was invested in St Ivel Gold, helping it to post a 14 per cent increase in volumes, although this was partially due to the relaunch of the brand after a poor performance in previous years.

Dairy Crest will also hope for continued good performances from brands such as Frijj, the leading UK flavoured milk brand which saw a 16 per cent volume hike in the half, as well as Yoplait brands such as Yop Frubes and wildlife, which all posted strong double digit gains during the period.

The question is whether the company can generate enough additional revenue from these core branded business to offset the impact of the contract losses over the next 18 months. The real impact of the volume reduction is unlikely to be felt until the 2006 financial year, but increases from the branded business alone will not be enough to compensate - meaning Dairy Crest has a long year of negotiations with potential customers ahead of it.

Dairy Crest's suppliers are unlikely to be happy with the situation, either, as the group has been forced to cut the price it pays for milk because instead of processing it into low margin supermarket own label liquid milk, it will now be used to make even lower margin commodity ingredients.