The Investment Column: Milk sours Northern's efforts

Reporting its results a day after Unigate has not proved a very flattering sequence of events for Northern Foods, the dairy and prepared foods group. While its rival's shares have motored on relentlessly over the last five years, Northern's have performed poorly, falling from 314p in 1992 to a five-year low of 166p three years later. Yesterday's 6.5p rise still only took them back to 206.5p.

The principal problem is that while Unigate has been selling businesses, generating cash and developing powerful operations in other food sectors such as pork processing, Northern has been weighed down by the unfortunately timed acquisition of Express Dairies and Eden Vale five years ago. As the chart shows, the proportion of people who buy all their milk from the milkman has been declining remorselessly as the public prefers instead to buy cheaper milk at supermarkets.

But while it may be too early to call the turn in Northern's fortunes, yesterday's presentation was the most positive for some time. Analysts believe a genuine recovery is now possible.

Pre-tax profits for the year to 31 March were 7 per cent ahead at pounds 128m, in line with expectations. And as usual it was a tale of two halves. The prepared foods side of the business, which supplies ready-made meals and the like to stores, continued to prosper. Sales to M&S and the four big supermarkets were 8 per cent ahead and margins improved. Northern is investing pounds 57m in its prepared foods business this year as it aligns itself increasingly with its big five customers, who now account for 60 per cent of its prepared foods sales. Profits and margins were well ahead last year and the impact of BSE, which knocked pounds 3m off the half- year profits, is gradually fading

But the good work in prepared foods was dissipated by the disappointing dairy operation. Here there was a savage pounds 17m hit due to lower commodity prices on milk powder and butter fat. With the supermarkets using their buying muscle to squeeze supplier prices, milk margins are at their lowest point for a decade. However, Northern is becoming more choosy about its retail customers and is reducing its commitment to second-line stores such as Kwik Save, Iceland and Somerfield.

On the doorstep, milk deliveries continue to decline and were 8 per cent lower at the year-end than 12 months previously. The more encouraging news is that the rate of decline is slowing. Northern also managed to push through a penny-a-pint price increase.

Like Unigate, Northern expects more consolidation in the milk market, which should benefit the main players. So, with rationalisation seemingly gathering pace and Milk Marque taking a more realistic view on raw milk prices, Northern's fortunes should improve.

On current year forecasts of pounds 140m, the shares trade on a forward rating of just under 12. Dairy companies are not going to achieve a premium rating until the milk industry shake-out makes more progress. Still, the shares are worth holding.