Strong growth of Friesland Foods’ profit

6 March 2008

2007 results

Good financial performance

  • Profit for the year up 35 percent, rising to 172 million euros  thanks, in part, to non-recurring income items
  • Estimated milk price up by 20 percent, rising to 37.07 euros per 100 kilograms of milk
  • Increase in profit for the year chiefly attributable to cheese, milk powders and ingredients
  • Margin developments in fresh dairy products in the Netherlands and cream-based products disappointing
  • Volume growth of 9 percent in Asia and Africa; higher raw material costs could not be fully passed on

Revenue on the rise

  • Revenue up by 8.5 percent, rising to 5.1 billion euros
  • Revenue increases in all regions and business groups
  • Revenue quality continues to improve

Strong financial position

  • Marginal drop in solvency ratio to 38.7 percent due to higher working capital
  • Further improvements in financing ratios

Cash flows

  • Cash flows from operating activities down despite higher profit for the year due to higher working capital as a result of increases in volume and value of inventories
  • Investing activities relate mainly to the construction of a second production site in Vietnam (Hanam), the installation of a second spray-dryer in Salatiga (Indonesia) and the expansion of the cheese-storage facility in Workum (the Netherlands)

Increase in dividend

  • Total dividend distribution up 35 percent
  • Dividend on Class A shares 0.36 euros per 100 kilograms of milk
  • Dividend per depositary receipt for Class B share 10.24 euros

Drop in number of employees

  • Number of employees down by 730 (5 percent), due, in particular, to restructuring in Central Europe

Friesland Foods delivered a good performance in 2007. Profit for the year rose by 35 percent, landing at 172 million euros (2006: 128 million). Revenue was up 400 million euros on 2006, rising to 5.1 billion euros (8.5 percent). Revenue growth was posted in all business groups and regions thanks mainly to higher selling prices. In Asia and Africa, volumes increased as well (by 9 percent), although margins did come under pressure here in the last quarter of the year because increases in the cost of raw materials were not fully covered by higher selling prices. The increase in profit was attributable to the Classic Dairy and Industrial business groups.

Profit for the year was raised by a non-recurring income item as a result of the sale of Friso baby and infant foods in the Netherlands. Moreover, restructuring expenses were lower than last year.
The year 2007 was characterised by strong increases in the world market prices of milk powder, whey powder and butter due to the globally increasing demand for dairy products and somewhat lagging supplies of milk. Selling prices in other product categories such as cheese, and fresh and long-life dairy in Western Europe also started to rise over the course of the second half year. World market prices for powders and butter have dropped since September.

In Central Europe, Asia and Africa, and in the professional cream-based products segment, the cost of raw materials could not, for the time being, be fully recharged to the customer, which led to pressure on margins. In addition, currency developments and the abolition of export subsidies had an adverse effect on revenue. This was offset by higher sales volumes. Sales of key drive brands were up 12 percent on 2006.

Operating profit was up 42 million euros (16 percent) rising to 299 million euros. Operating profit as a percentage of revenue (ROS) increased from 5.5 to 5.9 percent.
The cost of raw materials and consumables, and goods for resale rose to 3.2 billion euros. The increase by 335 million euros (12 percent) was attributable to the higher cost of raw materials on the world market and higher milk prices in the Netherlands. In 2007 Friesland Foods processed 6.9 billion kilograms of milk, 5.3 billion kilograms of which were supplied by Dutch member dairy farmers. These are the same figures as in 2006. Based on the forecast developments in milk prices paid by the index companies in 2007, the milk price used in the financial statements is 37.07 euros per 100 kilograms of milk (inclusive of 5.374 percent VAT). Adjusted for differences in the fat and protein content of the milk, this represents an increase by 6.16 euros (inclusive of VAT) per 100 kilograms of milk (20 percent) relative to the market price of milk in 2006.

The employee benefits expense was up 2 percent, rising to 448 million euros. The number of employees dropped by 730, landing at 14,582. In the Consumer Products Europe business group, 743 jobs were lost due to restructurings, whereas the staff base in the Industrial business group increased by 71 people.

Restructuring expenses amounted to 11 million euros (2006: 24 million), which was due mainly to the cost of the shut-down of the Groningen-based production site and the restructuring of the corporate staff departments.
The income tax expense increased by 2 million to 65 million euros. The tax burden dropped by 3 percent to 25 percent of pre-tax profit due, in particular, to one-off tax benefits in 2007.
As a result of these developments, profit for the year increased to 172 million euros. Profit for the year as a percentage of revenue was 3.4 percent (2006: 2.7 percent). This marks the first time that Friesland Foods reached the target of achieving a net profit for the year margin of more than 3 percent.

Cash flows
Net cash flows from operating activities amounted to 225 million euros in 2007 (2006: 244 million). This drop was caused chiefly by higher working capital. The increase in working capital was seen in inventories in particular, the main reason being sharp increases in the cost of raw materials during the year. These resulted in higher values of inventories, especially in the fourth quarter of the year. In addition, inventory volumes saw modest increases at year end.
Investments in land, buildings, plants, equipment and intangible assets increased by 21 million euros relative to 2006. Key investment projects in 2007 included the cheese-storage facility in Workum (the Netherlands), the second spray-dryer in Salatiga (Indonesia) and the construction of a second production site in Vietnam (Hanam). In 2007 Friesland Foods spent 39 million euros less on acquisitions than in 2006 (42 million euros).

Financial position
Equity was up 10 percent in 2007. The solvency ratio (equity as a percentage of total assets) dropped, however, to 38.7 percent (2006: 39.6 percent). This was the result of higher total assets due to an increase in working capital. Net debt rose by 8 million to 582 million euros.
Friesland Foods comfortably meets the requirements imposed by lenders, as expressed in the headline figures. The ratio of net debt to operating profit before depreciation and amortisation plus dividends from associates and exclusive of exceptional items is not allowed to exceed 3.5 : 1. At year-end 2007 this ratio was 1.4 : 1, the same as in 2006. In addition, the ratio of operating profit before depreciation and amortisation plus dividends from associates and exclusive of exceptional items to interest (interest coverage ratio) should be at least 3.5 : 1.
This ratio was 13.0 : 1 at year-end 2007 (2006: 12.8 : 1).
Increase in dividend
Total dividend distributions on Classes A and B shares increased by 35 percent compared with 2006. The dividend per Class A share is 2.62 euros (2006: 2.39 euros), and 10.24 euros per Class B share or depositary receipt for Class B share (2006: 6.81 euros). As in 2006, the dividend distribution on Class A shares reached the maximum amount as provided in the Articles of Association. Based on the dividend distributed on Class A shares, Zuivelcoöperatie Friesland Foods will distribute 0.36 euros exclusive of VAT per 100 kilograms of milk to the member dairy farmers  (2006: 0.33 euros exclusive of VAT).
On 2 March 2007 share premium reserve A of 62 million euros was converted into Class A share capital at a nominal value of 46.00 euros each. As a consequence, the Class A share capital has increased to 330 million euros. The number of Class A shares rose from 5,840,363 to 7,179,950. The Class B share capital amounts to 186 million euros. The ratio of Class A to Class B shares is now 64 : 36.

Developments by region
Revenue from European activities increased by 8 percent to 3.9 billion euros in the year under review. The increase was achieved mainly by the Dutch activities as a result of higher selling prices of dairy products. Revenue from activities undertaken in Hungary fell due to restructurings in 2006 and early in 2007.
Despite the reduction in EU subsidies on butter and in export subsidies on cheese, condensed milk and low-fat and whole-milk powder of 38 million euros, total operating profit in Europe rose by 42 percent to 230 million euros. Operating profit as a percentage of revenue increased to 5.9 percent (2006: 4.5 percent).
In Asia, revenue rose by 12 percent to 977 million euros (2006: 873 million). Operating profit was down 14 percent to 85 million euros (2006: 99 million) due to the fact that the higher cost of raw materials was not fully covered by higher selling prices, and an increase in advertising and promotional expenses. In Asia, operating profit as a percentage of revenue fell from 11.3 percent to 8.7 percent.

In the other regions, revenue was up 8 percent, rising to 338 million euros (2006: 314 million). Key countries are Nigeria and Saudi-Arabia. Operating profit showed a 15% drop in this region, from 36 million euros in 2006 to 30 million euros in the year under review. Again, the cause lay in the fact that the high cost of raw materials could not be fully incorporated in the selling price. In the other regions, operating profit as a percentage of revenue was down from 11.5 to 8.9 percent.

We will see selling prices of dairy products fluctuate in 2008 more than we were accustomed to in the past. This could already be identified in 2007. Slight changes in supply and demand are enough to lead to major price fluctuations, particularly in milk powder, whey powder and butter. This is the result of the ever-progressing liberalisation of the dairy market, the abolition of export subsidies, a greater variety in supplies due to weather conditions and consumer purchasing patterns. Now, more than ever, it is a question of timing; determining the price level and the maturity of a contract can have a huge impact on selling prices and margins. This may also cause greater variances in the milk prices that are paid to the member dairy farmers of different dairy companies. Consumption levels of dairy products worldwide are expected to continue to increase and Friesland Foods is likely to achieve its growth targets. Pressure on margins will stay strong in 2008 as a result of the high cost of raw materials, particularly in Asia and Africa. The Board of Management of Friesland Foods is not making any forward-looking statements about the company’s financial performance in 2008.

Audited accounts
The condensed financial information as presented in this press release is based on the financial statements prepared for the year ended 31 December 2007. Under Section 395, Book 2, of the Netherlands Civil Code we would note that our auditor, Deloitte Accountants B.V., has issued an unqualified opinion on the financial statements. For an adequate understanding of Royal Friesland Foods’ financial position and results, as well as of the scope of the audit of Deloitte Accountants B.V., this press release should be read in conjunction with the financial statements from which this press release has been derived and the auditor’s report issued thereon by Deloitte Accountants B.V. on 28 February 2008.