Booming dairy industry lures Queen St farmer

By Christopher Guy

Friday 14th September 2001

The enormous changes occurring in the dairy industry mean the days of the traditional family-owned dairy farm might be numbered. In its place will be the emergence of a new force in New Zealand's heartland: the corporate dairy farmer.

Rising land and herd prices, trends toward larger herds and the cost of having to buy shares in Fonterra Co-operative Group make it increasingly difficult to achieve dairy farm ownership via the traditional sharemilking route, despite the large number of dairy conversions.

As a result, a company now often owns farm assets. The owners hold shares in that company instead of owning land and cows. This new form of ownership is often referred to as an equity partnership.

The equity partnership's members might be a group of investors who are farmers - but equally, they might not have any farming expertise or background at all and instead rely on a dairy consultant to advise and manage employees. It might also be a family operation, in which the shareholders in the equity partnership are family members.

Regardless of the make-up of the equity partnership, the legal ramifications of corporate ownership extend into a wide range of issues, including the management of risk. From the outset of the equity partnership, it is vital certain fundamental matters be agreed between the shareholders and should be recorded in writing in two key documents.

The first is a business plan that should outline the expected direction that the farm is to take. It is the blueprint for the business and should be a clear expression of the equity partners' objectives and an agreed plan to achieve them.

The second key document is shareholders' agreement that clearly documents the relationships between the shareholders, and their agreement on fundamental matters, including:

The long-term approach to profit distribution;

Employee share arrangements;

Protocol for substantial capital expenditure decisions;

An agreement clarifying expectations of behaviour if competitive opportunities arise that are at odds with the partners' original business interests;

A formal process for transfer of shares; and

An agreement on voting rights of shareholders.

Unless addressed by way of binding legal agreements, each of these issues has the potential to poison the success of an equity partnership. There are other equally thorny issues that will arise when the business of running the farm gets under way.

Perhaps the most confusing can be taxation. Depending on the number of shareholders, the equity partnership vehicle can be taxed in its own right or effectively taxed as a partnership if it is a "qualifying company" for tax purposes. One issue to consider is that the corporate tax rate is 33%, as opposed to the top rate of 39% for individuals. However, comprehensive tax and GST advice is recommended.

The equity partnership model also requires a disciplined approach to employment law. It is only a matter of time before a manager of an equity partnership is paid on a similar basis to a manager working for a city company managing a business of similar turnover.

The simple approach might be to opt for incentive programmes based solely on production. But this quick-fix approach is fraught with risks. An incentive programme might encourage managers and employees to start using winter supplements late in the season to boost production and therefore their bonus.

Other options might include granting key employees non-voting shares in the company for the period of their employment. Such shares would be a powerful incentive to ensure that the farm is well run and achieves optimum performance.

The Employment Relations Act means every employment agreement must be in writing. For managers, a restraint of trade provision can be utilised to prevent them working for a competitor in the local area for a specified time say three to six months. Clearly, the terms of such an agreement will need to accord with the wording and intent of the act - and should not be drafted without the advice of someone with a thorough knowledge of employment law.

Adverse weather conditions and the rise and fall of the kiwi dollar are part and parcel of managing any dairy farm. Other risks, however, are specific to an equity partnership.

These scenarios might include the death of a farm manager. The inevitable disruption to the day-to-day running of the farm can be minimised by the equity partnership taking out some form of key-person insurance over the manager, to provide immediate cash that can then be used to secure a replacement and cushion against any short-term financial changes.

Equity partnerships provide a launching pad for entry to a business sector with increasingly prohibitive entry costs.

Their success, however, will depend on the way in which they are formed from the outset.

Well-drafted agreements that are binding on all parties to the equity partnership - and also accommodate the needs and concerns of employees - are vital to future success. Professional advice on complex issues is essential.

Christopher Guy is a senior associate at Buddle Findlay, Wellington. christopher.guy@buddlefindlay.com

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