The end of $1 milk?

Global milk prices are rising, potentially crunching retailers like Woolworths (ASX: WOW) and Coles, owned by Wesfarmers (ASX: WOW), which sells milk for just $1 a litre in its stores. Is this the end of $1 milk?

Typically, these retailers earn a margin of around 10% to 15% on home brand milk sales. But with prices spiking, those margins will likely compress — significantly for Coles.

In fact, the supermarket chain has been flagged for a 20% increase in the price it pays milk processors. This is because, as The Australian Financial Review has reported, “Coles has ‘rise and fall’ clauses in private label milk contracts and has vowed to increase payments to dairy processors to reflect the higher farmgate prices they incur…

However, Coles says it is confident it can absorb any cost increases in the short term through internal efficiency gains and maintain its $2 for two litre retail price strategy.”

Woolworths does not have the same clauses in its contracts so is less likely to be affected by surging prices. The company plans to launch a new home brand, Farmer’s Own, later this year, with milk sourced from farmers in NSW’s Manning Valley.

Foolish takeaway

The cases in which Australia’s supermarket duopoly gets squeezed – rather than their suppliers – are fairly rare. Despite short-term commodity price spikes, one can reasonably expect mammoth operations like Coles and Woolworths to carry the day, most days.

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Motley Fool contributor Catherine Baab-Muguira does not own any shares in the companies mentioned in this article.


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