December 1, 2015

	Kirk Belsby Partner Finistere Ventures
	Arama Kukutai Partner Finistere Ventures

California cows are happy cows – so the story goes. For years advertising depicts our bovine friends frolicking across green pastures. But, the reality is a bit different. The majority of the milk sold to consumers is produced in the U.S. (and California) in “CAFO” or confined animal feed operations. This is a euphemism for cattle standing around in a barn or pen, while fed a cereal and grain diet usually imported from the Midwest’s huge harvest. The cows are restricted in movement and dump their waste into a sewage system that can often be smelled miles away. They are usually subject to antibiotic use to control infection that is more prevalent when animals are packed into a confined space. Their commercial life span is one third of that enjoyed by cows milking on pasture, not exactly an appetizing formula and unlikely to be an environment that makes cows “happy”. Even “organic” milk sold in the U.S. is only required to be produced by animals on pasture for one third of the year. Yet, a change is brewing as customer desire for less industrialized food permeates the dairy sector as it has done in other areas such as poultry, eggs, and more recently a growing interest in grass-fed beef. Pasture raised, free-range dairy is still relatively novel but is experiencing a surge in demand across the food industry. In the U.S., nearly 10% of all eggs sold are cage-free, and fast food chains like McDonald’s are switching to cage-free eggs. The market potential is easily in the billions and offers a slew of investment and technology opportunities for the AgTech sector and farmers, alike.

The Market:
The U.S. produces about $35B in dairy, or about 210B lbs of liquid milk, annually. The USDA estimates organic dairy sales exceeded $5B in 2014, about 15% of all organic food sales, second only to produce, which remains the category leader. The grass-fed, or free-range, category is very small at present, constrained by supply and geographic focus to the Northeast and Northwest, but industry estimates are $600M with a significant price premium to farmers, which will only continue to drive the increase in supply. Producers like Organic Valley (already a large organics focused co-op) are leading the way with products like Grass Milk, while boutique processor Maple Hill Creamery are producing their grass-fed variety of yoghurts through market leader retailer Whole Foods. This is the tip of the spear in this new product niche.

There are some obvious factors driving the new interest in healthier dairy. Grass-fed dairy has higher levels of Omega 3 and CLA (Conjugated Linoleic Acid) as well as being non-GMO as no commercial grass varieties for feed are currently genetically modified. Artificial growth hormones are also kept out of the animal diet. Animals out on pasture live longer and are generally healthier, leading to lower need for antibiotics.

The Disruptive Technology:
Make no mistake – farming on pasture is not just a green imperative; it has also been driven by significant innovation both in technology and farming practices. Free-range pasture dairy is the prevalent farming approach in countries like Ireland and New Zealand, who are also large dairy product exporters with major producers like Arla, Kerrygold and Fonterra. These countries have benefited from plentiful rainfall and temperate conditions for growing grass as well as long term applied research into a suite of technologies and a focus on sustainability. The efforts have improved grass varieties, advanced animal genetics, and introduced innovations in areas such as disease detection, breeding and animal reproduction, labor saving milking systems, energy efficient on-farm systems, extensive big data analytics, and decision making tools. Additionally, there is a significant focus on effluent spreading onto pasture to minimize fertilizer use, and advances in irrigation and water use to prevent nitrogen runoff.

Taking a more holistic approach has generated other technology advances such as New Zealand’s comprehensive herd database, which registers and tracks every milking animal benefiting genetic and food safety agendas, and world class irrigation technologies like VRI (Variable Rate Irrigation) to ensure better management not only of water but the environmental impact on waterways. Profit on farms with New Zealand agricultural productivity has improved at close to twice the global average. As a result, these countries produce a healthy product, and have created greater farmer returns through lower cost per lb/milk and improved sustainability.

A New Opportunity for Farmers and Investors:
Beyond better returns at the farm gate, the implementation of free-range technologies can provide other benefits to farmers. Lower operating costs, particularly feed costs, which represent the highest cost category on a farm, and lower ‘input’ costs and lower volatility in these costs as they are not reliant on corn/soy costs to the same extent as CAFOs. But, this is only part of the picture.

Ag land investors have always known that when you change how land is used, you create an opportunity to enhance its capital value. Uniquely, U.S. ag land suitable for grass-based dairy is lower priced than land being utilized similarly in New Zealand and Ireland. New Zealand, in particular, has experienced a very significant growth in the value of dairy farm land over the last 20 years, driven by many of the fundamental techno-economic factors noted here.

With the opportunity to transfer proven technology from leading free-range diary countries to the leading dairy market, the U.S., Finistere is seeing an interesting nexus between real asset investors, interested in the security of land and great timing for Ag land acquisition, with the macro trends for healthier food demand globally. For private equity investors, uniquely, there is little technology risk yet significant premiums to be realized from tech transfer and implementation. With sizable private equity interest in farm assets, there is an unrealized opportunity to leverage technology and know-how to feed the growing consumer demand for free-range dairy to lift both operating income on farm while creating the environment for improving asset values. This is also a great motif for globalization, where trade barriers might prevent importation of products but create the opportunity to deploy technology to meet consumer demand in-country by creating jobs, returns, and more choice. In summary, Finistere believes that for both venture tech investing and real asset development, grass-based, free-range dairy will be a hot area to watch closely.

Article originally posted at finistere.com/blog/ and reposted with authors’ permission.

Kirk Belsby and Arama Kukutai are members of the speaking faculty at GAI Europe in London, November 30-December 2, 2015.

The opinions expressed in this editorial are the authors’ own and do not reflect the views of GAI News.