11/09/2011 04:29 EST | Updated 01/09/2012 05:12 EST

Saputo says higher prices and cross border shopping to blame for lower volumes

MONTREAL - Saputo Inc. says cross-border shopping and higher dairy prices at home have caused a continued reduction in its milk and cheese sales volumes in Canada.

For the second consecutive quarter, Canadian per capita milk volumes declined in the second quarter, CEO Lino Saputo Jr. said Wednesday during a conference call by the Montreal-based cheese and dairy giant.

"That is a reality of the Canadian market today."

The declines, which he declined to enumerate, have been in cheese and fluid milk categories beyond specialty products such as flavoured single-serve offerings.

The reduction was first noticed in April, following the latest price increase put in place a month earlier.

"We have seen that the overall market is shrinking. Either consumers are consuming less products or consumers are sourcing products from other areas which would be possibly as well cross-border shopping," he told analysts.

Saputo (TSX:SAP) reported Wednesday that its earnings increased one per cent to $127.1 million in the second quarter of its fiscal year even though revenues surged 15.5 per cent.

It earned 61 cents per diluted share for the period ended Sept. 30, one cent higher than in the prior year.

Despite the lower sales volumes, Saputo said the company has grown its market share in Canada.

While Canadians are barred from bringing meat and some foods back into the country, visitors to the United States are allowed to import up to 20 kilograms per person of cheese and milk with a value of $20 or less.

Those returning from countries other than the United States can bring back cheese but not milk products, including whey, cream and butter oil, according to a Canadian government website.

The high Canadian dollar has prompted many Canadians to cross the border in search of discounts for clothes and electronics. Rarely has there been any suggestion of higher purchases of food.

It's not the first time that Saputo has warned about the negative impact of higher prices. It said a 2008 federal regulation altering the composition of cheese would increase consumer prices and affect demand.

The change required cheese makers to use more full-fat milk and less of the ingredients typically labelled as milk solids.

Saputo said the company will continue to seek additional operating efficiencies to offset the impact of lower sales volumes on its results.

The company was expected to report 60 cents per diluted share in earnings on $1.78 billion of revenues during the second quarter, according to analysts polled by Thomson Reuters.

Mark Petrie of CIBC World Markets said the results were "short of expectations" due to lower profitability in the United States.

"The main factors for the shortfall in the U.S. were a tighter margin between cheese and milk prices, and a declining cheese price through the quarter," he wrote in a report.

Canadian operations were in line with forecasts.

Revenues increased by $240.7 million to $1.8 billion mainly due to its DCI acquisition in the United States, higher average block market per pound of cheese, increased sales volumes and a more favourable dairy ingredients in the U.S.

The Canadian/Argentina dairy segment earned $135.7 million on $1 billion of sales, compared to $132.8 million on $994 million of revenues in the prior year.

The strengthening of the Canadian dollar compared to the U.S. and Argentine currencies cut $5 million of revenues.

The U.S. segment's operating profit increased slightly to $74.4 million as revenues grew 39 per cent to $723.7 million. The grocery segment's profit tumbled 38 per cent to $2.9 million as revenues decreased to $35.2 million from $37.8 million a year earlier.

"Despite continued challenging market conditions, we maintained our strong financial position, strengthened our balance sheet and increased cash flows and for this I'm pleased with our results," the president and chief executive said.

California's change in its milk pricing formula that took effect Sept. 1, has begun to impact operating profits. Prices will be set according to variations in the whey market instead of a fixed formula.

The impact would have been US$6 million had they been in place since the beginning of the fiscal year.

"In the upcoming quarters, we will work on implementing various measures in an effort to diminish the impact of this decision," he said.

Saputo is the world's 12th largest dairy processor and Canada's largest with more than 10,200 employees. It produces, markets and distributes cheese, milk, yogurt and dairy products at 47 plants in Canada, the United States, Europe and Argentina. It is also Canada's largest snack cake producer.

On the Toronto Stock Exchange, its shares fell 89 cents to $40.41 in Wednesday trading.