Dutch company Campina and Scandianvia's Arla Foods will create a company with sales of more than €10 billion, owned by some 21,000 farmers and with around 13 per cent of the EU milk market. The group, to be called simply Campina Arla, will focus primarily on boosting sales of branded dairy products - although it will also be a major supplier of dairy ingredients and own-label products.
For European dairy companies, the next few years are likely to be very challenging. The rising power of the multiple retailers means that profitability in the high volume own label milk sector is likely to remain low, while the reform of the Common Agricultural Policy is likely to cut European milk prices by over 20 per cent by 2008.
The business strengths of the two companies are complementary. In liquid milk, yoghurts and desserts, Arla Foods focuses on Scandinavia and the UK, while Campina focuses on the Benelux countries, Germany, Greece, and Russia. In cheese and butter, Scandinavia and the UK are home markets for Arla Foods, with Campina's home markets in the Benelux and Germany.
"This merger will unite the best of both companies and is a crystal clear example of the power of synergy," said Campina's Justinus Sanders, the new CEO of Campina Arla. "With Campina Arla, we will establish a dairy co-operative with even more competitive and innovative power for the benefit of our member-farmers, customers, consumers and our employees.
"By joining forces the company will become an even more attractive business partner for international retailers, and the new company will establish a sound basis in a dairy world that is feeling the pressure from new EC policies."
In light of these policies - and other commercial pressures - Arla in particular has been keen to expand beyond its Scandinavian base in a bid to create a company with sufficient scale and reach to overcome most concerns. The company last year merged its UK arm with the local Express Dairies group to become a leading player in the British market, and was recently linked to a possible deal with German dairies Humana and Nordmilch.
But the link up with Campina makes much more commercial sense. Combined sales of €10 billion leaves the group second only to Nestlé (€15.3 billion) in the world dairy sector, and well ahead of nearest rivals Dean Foods, Danone, Dairy Farmers of America and Fonterra, all of which have around €6 billion, and the co-operative structure and dairy-only focus of the two companies makes them more logical partners than, say, Danone, Unilever, Kraft or even Parmalat.
Furthermore, the merged group will generate the majority of its sales (€6.33 billion) in the key branded dairy product sector, which offers perhaps the best opportunities for growth, and will also have a strong position in cheese and butter (€3.5 billion) with brands such as Lurpak and Buttergold.
The merger of the two groups, which has been rumoured for some time, will help Campina Arla to make significant cost savings, in particular in terms of procurement and production efficiency, as well as freeing up more cash for research and development, vital for companies looking for new products to help generate profits in a market which is becoming increasingly commoditised.
Both Campina and Arla have been at the forefront of innovation in the dairy sector. Both have low-fat milk varieties which have proven extremely popular with today's increasingly health conscious consumers, and Arla Foods UK is to launch a new low-carb milk under the Atkins name which will tap into this same trend.
Arla was also the pioneer of the spreadable butter sector in the UK, a move which has enabled it to see strong growth for its branded products in a market dominated by low-margin own label products.
Innovation will be at the core of the company's strategy in the coming years, with the company seeking to consolidate its strong position in markets such as dairy drinks and desserts, and expand its already strong position in the speciality cheese sector, an aim facilitated by the broader geographical spread of the combined group.
But despite its strong European position, the company will also seek new opportunities elsewhere in a bid to offset expected declines in European milk prices following the CAP reform measures.
The burgeoning dairy markets in the Middle East and Asia will be targeted in particular. The company already has a strong position in the Middle East for cheese, butter, cream and milk powder through Arla's units in the UAE and Saudia Arabia, while and the recent acquisition by Campina of Parmalat's Thai unit gives the new company a platform on which to grow in what is one of Asia's fastest-growing economies.
With 71 per cent of Campina Arla's milk supplied by its own farmer-members, the company should have little difficulty meeting demand as it seeks to develop in new markets.
The farmer-members of Campina Arla are likely to benefit in two ways from the merger. The larger, more cost-effective group is in a much stronger position to negotiate with the multiple retailers, which have been squeezing suppliers' margins (and in turn putting pressure on milk prices) for many years. Moreover, with the new company focused on high added-value dairy products, increased revenues are likely to mean higher milk prices.