The dairy industry is the third largest rural industry in the country after the wheat and beef. It is worth $13 billion with a gross value of $4 billion in farm gate alone. It is responsible for farming, manufacture and exportation of milk and dairy products. The industry houses more than 6,000 dairy farmers who produce approximately 9.7 billion litres of milk each year. Over 40,000 people are employed directly in the farms and factories with an additional 100,000 and more in indirect employment in services related to the industry (Dairy Australia, 2014).As one of the leading rural industries, dairy generates economic value to the regions in which the industries are located through downstream processing and value addition to dairy products. Most of the milk processing is done in the areas close to where milk is processed and thus it generates economic activity and creates employment.
The industry is well developed across the temperate and subtropical regions of the country. The major milk producers are located in the south-east states where the manufacturing of long lasting products like cheese and milk powder is concentrated. Other smaller dairy industries are situated across the states within the country, producing high quality consumer products such as fresh milk, yoghurts, and a variety of cheese. These products are supplied to nearby towns and cities, while some is exported.
There are two main production areas within the dairy industry (Datamonitor, 2000). First is the milk production in farms where farmers rear animals (cows, goats and sheep) for production milk. Second is the milk processing stage-this stage is responsible for ensuring that milk from production lasts long enough to reach the intended market. The objective is achieved through heat treatment of the milk and preparation of a range of milk products that can be stored for longer periods.
In Australia, large-scale milk processors are owned by co-operatives belonging to dairy farmers. The processed milk and dairy products are sold in wholesale to distributors who then sell it to retailers and consumers.
Processing of butter involves the following procedure:
Milk powder processing undergoes the following basic processes:
Distribution and marketing of milk products and processed milk is done through milk dealers. These are wholesalers, supermarkets and other retail chains. The dealers conduct marketing operations like procurement, transportation and delivery operations.Supermarkets take a major share of the distribution with about 54%. Other distributing firms are as well taking a huge portion of volumes in bottled or packaged milk from the processors. In addition, there are sub dealers and agent distributors.
Milk production: Farms are perfect competition in nature as there is large number of farms, across different regions of Australia. Although the number is not infinitely large, products are similar for all the farms. Therefore, farms are mainly price taker. They have no such power of determining price. Farms only charge the market equilibrium price.
Butter production: Monopolistic competition in nature with large number of butter manufacturing companies producing differentiated products. Butter is sold in different categories based on calorie value and tastes. As products are differentiated, producers have power to determine their product price.
Cheese production: Cheese production industry is monopolistically competitors due to presence of significantly large number of cheese manufacturers. This market is monopolistically competitive as competition prevails although having distinguishing features of every brand. Mainly five types of cheese such as cheddar, semi hard, hard grating, fresh and mould are produced in Australian market (Dairy Australia, 2014). Companies bring differentiated products in these categories to compete with each other. Pricing power presents with some degree of market power. However, price rise is not possible often due to presence of close substitutes unless brand value is very high.
Milk power processing: This industry also can be said monopolistic competitive as number of milk power producer is more than 30 in the Australian market. This industry product is categories into three categories such as whole milk power, skim milk powder and buttermilk powder (Dairy Australia, 2014). Therefore, product differentiation strategies used by the companies in order to possess some extent of market power to charge price greater than their marginal cost of production.
Similar to other businesspersons, milk dealers compete among themselves in prices and services, as well as in the quality, packaging and variety of the products they offer. They also compete through advertising and product promotion. Dealers in Australia however are trying to avoid direct price competition (Dairy Australia, 2014).
The basic competition in the dairy industry has increased the degree of interdependence among firms. This is mainly in pricing decisions where the firms know that rivals will meet any price changes and that when the market price is reduced, the overall sales revenues will as well reduce for the distributors. Competition within the market is because there is a relatively small number of entities with a sizeable portion of the market. These dealers buy milk from co-operatives at about the same prices. In addition, the products are close substitutes of each other within the same variety, and their consumption is slightly inelastic to changes in price.
Because of the above conditions, the firms in the dairy industry have to be aware of the activities of their rivals when making price decisions. Price reductions have a huge implication in the market and can end up reducing revenue for the entire market. It is only the small dealers who control a small portion of the market who can change their prices. Minor dealers know that the competitors will not challenge these changes in prices. In addition, retaliatory price reductions could be hazardous to the market and all the firms know the danger of this strategy (Karantininis & Nilsson, 2007).
If the prices are increased in the entire market, total revenues could also increase. However,individual firms are reluctant to increase their prices because of the fear that its rivals could not follow. This could be disastrous to a firm as it can end up losing sakes. Therefore, established dealers who know had better often restrain themselves in price competitions because of the fear that rivals may not cooperate or may even impose retaliatory prices (Karantininis & Nilsson, 2007). This tendency of letting the prices be is not only observed in the dairy industry, but also in many other oligopolistic sectors of the Australian economy.
Inglenook plans to verticallyintegrate its processing, distribution and marketing activities. Furthermore, it will differentiate and distribute its products according to the market needs. This step will give the company a competitive advantage over its rival who are non-integrated. The customers of the company’s products will most likely choose its products because of lower costs, and better quality products that are tailor made for their needs.
Integration of operational activities will ensure that the company will not rely on external suppliers. In this way, the company will face fewer disruptions in its activities and avoid disputes that are related with working with third party companies. Integrated milk processing and distribution means that inglenook will have a better control over its marketbecause it will now go around providers and distributors. The benefit of this is that it will be able to reduce its internal costs and will have better delivery of the differentiated products fit for individual needs of the markets. Shortages of critical elements will also be outdated. In addition, the company will have economies of scale the manufacturing process will be more efficient because of the vertical integration.
Vertical integration of operations will however come at a cost to the company. Inglenook will need to invest a lot of capital in setting up processing plants and chains of distribution. More capital will go into research and development of differentiated products. These plants will have to keep running even in the low seasons to ensure efficiency and long run profit margins. This cost can be a threat to the long run profits.
Vertical integration will reduce costs of operation through economies of scale. This will ensure that the company maximises profits in the long run. In addition, there will be fewer interruptions in production and the differentiated products will fetch more both in the local and in the foreign market.
Vertical integration and product differentiation will involve many initial costs in setting up plants and distribution mechanisms, as well as in the development of new differentiated products. This may affect the profitability of the firm in future. However, this will be until the plants are efficient.
Inglenook will have to conduct extensive market research to acquaint itself with the individual tastes and preferences of the market segments in which it intends to sell the differentiated products. The market research will ensure that it avoids mistakes that could lead to losses in production. Furthermore, the market research can open up other opportunities like price discrimination that will enable inglenook to maximise its profits further.
ABC Rural (2013) Milking the profits – who’s talking the cream? 10.05.2013 https://www.abc.net.au/news/2013-04-22/milk-wars/4639078
Chandan, R. C., In Kilara, A., & In Shah, N. P. (2016). Dairy processing and quality assurance.
Dairy Australia. (2003). The Dairy Australian: News for the manufacturing sector from Dairy Australia. Southbank, Vic: Dairy Australia.
Dairy Australia (2012) Dairy 2012 Situation and Outlook Summary Report https://www.dairyaustralia.com.au/~/media/Documents/Stats%20and%20markets/S%20and %20O/S%20and%20O%20May%202012/Situation%20%20Outlook%20Summary%20Report% 20FinalLR%20FINAL.pdf
Dairy Australia. (2014). Australian dairy industry in focus.
Datamonitor (Firm). (2000). Dairy in Australia. New York, NY: Datamonitor.
Fulkerson, W. J., Doyle, P., & Victoria. (2001). The Australian dairy industry. Melbourne: Dept. of Natural Resources and Environment.
Hedlund, G. W., & New York (State). (1964). Market structure, competition and regulation in the distribution of fluid milk. Albany?: Committee on Milk Marketing.
Joskow, P. L. (January 01, 2010). Vertical integration. Antitrust Bulletin, 55, 3, 545-586.
Karantininis, K., & Nilsson, J. (2007). Vertical Markets and Cooperative Hierarchies: The Role of Cooperatives in the Agri-Food Industry. Dordrecht: Springer.
Lee, Tim (2012) Milk Wars, ABC Landline, 06.08.2012 https://www.abc.net.au/landline/content/2012/s3561483.htm (Both the television program and the transcript of the program is avalaible)
Mazzarol, Tim (2014) The role of co-operative enterprise in Australian agribusiness, The Conversation,19.01.2014 https://theconversation.com/the-role-of-co-operative-enterprise-in-australian-agribusiness-22147
Reisinger, M. (2004). Three essays on oligopoly: Product bundling, two-sided markets and vertical product differentiation.
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