F o n t e r r a

F o n t e r r a A n n u a l r e p o r t 2 0 0 6F o n t e r r a A n n u a l r e p o r t 2 0 0 6

FoNTERRA – SEASON 2005/06 in reviewShareholder Returns 2005/06 2004/05 2003/04 2002/03 2001/02 1Payout (NZD per kg/MS) 4.10 4.59 4.25 3.63 5.33Historical Commodity Milk Price 3.85 4.37 3.97 3.34 5.45Milk Price Gap 4(0.23) (0.23) (0.20) (0.18) 3(0.39)Fonterra Commodity Milk Price 3.62 4.14 3.77 3.16 5.06Value Add Contribution to Payout 2 0.48 0.45 0.48 0.47 0.22Fair Value Share Price (NZD) set for the next season 5.80 5.44 4.69 4.38 53.85Total Shareholder Return 9.6% 17.2% 11.0% 16.7% N/aTotal number of shareholders (supply numbers) at 31 May 11,286 11,680 12,144 12,562 13,057Staff EmployedTotal Staff Employed (000’s) 17.4 18.6 19.6 19.8 20.0New Zealand (000’s) 11.0 11.6 11.1 10.8 N/aOverseas (000’s) 6.4 7.0 8.5 9.0 N/aOperating PerformanceAverage NZD/USD Spot Exchange Rate applying0.68 0.69 0.62 0.51 0.43throughout the year 6Fonterra’s average NZD/USD conversion rate 6 0.66 0.61 0.52 0.48 0.44Revenue (NZD millions)Ingredients and other revenue from outside of the Group 9,211 8,548 8,194 7,887 8,341Consumer revenue from outside of the Group 3,790 3,775 3,636 4,587 5,583Total Revenue 13,001 12,323 11,830 12,474 13,924Segment operating surplus (NZD millions) 7Ingredients 725 601 563 407 N/aConsumer 288 265 280 404 N/aInter-Group Eliminations (28) (43) (4) 6 N/aSegment operating surplus 985 823 839 817 599Net Surplus/(Deficit) after minorities (NZD millions) – 191 7 257 (50)Capital EmployedTotal Assets Employed (NZD millions) 13,080 11,812 11,112 10,746 11,800Shareholders’ Funds, including minority interests (NZD millions) 5,145 4,911 4,795 4,665 4,485Net Interest Bearing Debt (NZD millions) 5,600 4,334 4,041 4,388 4,718Debt to debt plus equity ratio 52.1% 46.9% 45.7% 48.5% 51.3%1 Certain comparative information for the 2001/02 season is not available due to the structure of the Group’s reporting systems in Fonterra’s formation year.2 The Value Add Contribution to Payout is a measure of the value added (including the cost of capital) to suppliers’ milk by Fonterra from all of its operations, over andabove the value of milk supplied.3 Applying different methodology to that used in 2002/03, 2003/04, 2004/05 and 2005/06.4 In 2005/06 methodology refinements were made to the calculation of Historical commodity milk price and Fonterra commodity milk price. Comparatives have not beenrestated using the refined methodology, refer page 34.5 Initial Fair Value Share price was a nominal value set by the Fonterra Board; subsequent valuations determined from within the range set by the independent valuer.6 Average exchange rate is the average of the daily spot rates for the season. The average conversion rate is the rate that Fonterra has converted net foreign currencyreceipts into NZ Dollars based on the hedge cover in place.7 Represents earnings before interest and tax calculated on the basis of the historical CMP and adjusted for non recurring items.

RESULTS AT A GLANCEPAYOUT – NZD per kg/MSSEGMENT OPERATING SURPLUS – NZD millions$6.00$1,100$5.00$1,000$4.00$900$3.00$800$2.00$700$1.00$600$0.002001/02 2002/03 2003/04 2004/05 2005/06$5002001/02 2002/03 2003/04 2004/05 2005/06AVERAGE COMMODITY PRICES – USD per MT FOB*FONTERRA’S AVERAGE NZD/USD CONVERSION RATE3,0000.700.66USD per MT FOB2,5002,0001,5001,000500WMPSMPBUTTERCHEESE0.650.600.550.500.450.400.350.440.480.520.61

Dairy for life

A LIFE WHICH STARTS WITH SUNSHINE,blue skies, green grass, clear waterand healthy cows…BUILDING ON NATURE’S GOODNESS>

A LIFE THAT’S VITAL, ACTIVE AND HEALTHY,because no matter what generation we belong to,we want to get the most out of every day…ENHANCING LONG TERM HEALTH + VITALITY>

A LIFE RICH IN RELATIONSHIPS,between families, generations, customers,communities and the world around us…CREATING STRONG TIES>

A LIFE WHERE CAN-DO ISN’T AN ADJECTIVE,but a verb, because that’s theway we’ve always been.MAKING THINGS HAPPEN THE “KIWI” WAY>

Dairy is our life’s work. We cannot think of anythingmore rewarding. In an age where you need achemistry degree to understand some food labels,milk is pure milk, designed by nature to provide all thebuilding blocks for a healthy life. Dairy has nevergone out of style. It is not hard to understand why.It has never failed to meet our needs, even as theychange and become more sophisticated. For our greatgrandparents, it was simple nutrition, served chilled in aglass. Today, we marvel at the precision with which dairycan deliver the levels of health we seek at every age,whether it be in strong bones, healthy digestion, higherimmunity or lower weight. How did we get fromsimple to sophisticated? We said “thanks” to nature forgiving us something wonderful to work with, then weset about figuring out how to make it even better. Onthe way, “what can we do with dairy?” has become“can-do” with dairy. It’s this knowledge that sets usapart. Dairy has provided an enduring way of life,which has seen farming heritages built up and passeddown through the generations. Year after year, farmershave worked with the land and their herds to bringdairy to successive families of consumers, customers andcommunities. Dairy is all we do. We think that’s quiteenough to be thinking about. By thinking solely aboutdairy, we’ve become experts in our favourite topic,starting on the land and ending in the best place of all,the tastebuds. Because let’s not forget that while dairy isgood in nutrition, it’s absolutely great in taste.

CONTENTSSeason in Review tablesIFCDairy for life 01Chairman’s Review 14CEO’s Review 20Adding value to commodities 22Exceeding sales and profit targets 24Less complexity, more productivity 26Global manufacturing view leverages expertise 28Encouraging sustainable and profitable growth 30Performance measures 34Governance 38Financial Information 49

HENRY VAN DER HEYDEN - CHAIRMAN>

Our life’s ambition:

To Lead in Dairy.14Chairman’s ReviewFonterra closed the season with a final payout of$4.10 per kilogram of milksolids, up from our originalforecast of $3.85 per kg/MS. The 25 cent differencecomes down to achieving cost reductions worth morethan $130 million, the results of a good sales drivein the last quarter and progress in turning aroundFonterra Brands. It was achieved in the face of a strongdollar which gave us our highest ever average foreignexchange conversion rate of 66 cents.While the payout is down on the previous season’sresult of $4.59 per kg/MS, it is a satisfactory outcome,given the environment, and we are now working flatout to continue to do better.The season certainly reminded us that dairy is alwaysdependent on the weather. Our milk flows veered frombeing below-budget in mid-season to an autumn surgethrough our manufacturing sites.The sales team did well in responding to the challenge,achieving record fourth quarter sales. Their performancewas a highlight, as was the achievement of our consumerbusiness in beating its sales and profit targets, despitehigh commodity prices.The autumn milk surge meant our farmers achievedrecord production of 1,210 million kg/MS, 4.3 per centhigher than the previous season and nearly one percent up on the previous production record of 1,201million kg/MS set in 2003/04.It was encouraging to see the strength and flexibility ofour supply chain and our ability to respond quickly tochanges in supply and market conditions. Achievementsinclude selling nearly 100,000 MT more in the lastquarter than we did in the same period last season.That includes the first ever sale of more than 300,000MT in a calendar month, achieved in May.We need more of this speed in the business. Withincreasing competition, we need to be quicker at makingdecisions and getting the results of those decisions intothe market much faster. This will be something we willbe working on over the next 12 months.FINANCIAL REVIEWOur revenues, at $13 billion, were six per cent, or $678million, up on the previous season. The increase isprimarily related to record ingredients sales volumes of2.5 million MT, an increase of 207,000 MT, or nine percent on the 2004/05 season.PAYOUTOur $4.10 per kg/MS payout delivers $5 billion toour shareholders and the New Zealand economy, andincludes a value add contribution of $578 million,or 48 cents per kg/MS. Our value add contributionhas increased by seven per cent on the prior year.In addition to the $4.10 per kg/MS payout, ourshareholders this season will, on average, receive abenefit equal to 14 cents per kg/MS, arising as a resultof changes to our capital structure. The benefit variesamong shareholders.$4.10 per kg/MS with a 66 cent average exchangerate is a result farmers would never have expectedin Fonterra’s early days. That result is grounds forconfidence in the co-operative and we will always befocused on ensuring that our performance earns theloyalty of shareholders.VALUE ADD CONTRIBUTIONOur value add earnings have been challenged over thepast few years. Each year in the last four, Fonterra’saverage conversion rate to the US dollar has weakened.As the significant majority of our value add earningsare denominated in US dollars, that has reducedour earnings in New Zealand dollars. In addition,we have seen commodity prices increase from theyear before.These higher prices inevitably squeeze our value addearnings. In spite of these factors, we have keptearnings roughly flat over the period. The seven percent rise in value add earnings this year over last year isa good result given the environment. A more detaileddiscussion of this is included in the performancesummary on page 35.FONTERRA GLOBAL TRADE AND FONTERRAINGREDIENTSSales by Fonterra’s Global Trade and Ingredientsbusinesses (formerly collectively called FonterraIngredients) were $663 million up at $9.2 billion,driven primarily by higher sales volumes. Total revenues,including intersegment sales, were $10.6 billion.The business achieved an operating surplus, essentiallyits EBIT, of $725 million, up $124 million or 21 per centfrom last year, driven by increased sales and reflectingcost savings initiatives during the year.Higher sales of ingredients sourced from third partiesmade a significant contribution to revenues, with thirdparty sales revenues up to $2.3 billion compared to$1.8 billion in the prior year.

These sales included a 85,000 MT increase in volumesfrom Australia, as well as higher skim milk powderexports from the US. The Australian volume growthincluded a 37,000 MT contribution as a result ofFonterra’s acquisition of Nestlé’s powdered milk plant inDennington, Victoria in the first quarter of 2006. Thiscontribution shows the potential we have in Australiaand while, overall, our performance there is not yetwhere we want it to be, progress is being made.Sales conditions globally proved difficult early in the yearwith a slowdown mid-season when customers delayedpurchases for a number of reasons. This forced us tocarry higher inventories through the middle of the year.Record volumes sold in the final quarter reduced ourinventories back to normal levels. Sales growth wasachieved across all major markets, including the UnitedStates, our largest market.Cost of goods sold in Fonterra Global Trade andFonterra Ingredients was $9.1 billion compared with$8.5 billion in the prior year. The increase reflectshigher third party volumes and higher volumes of milkbeing paid for in New Zealand.FONTERRA BRANDSFonterra Brands exceeded its sales and profit targets,despite paying its highest commodity prices in fiveyears. Fonterra Brands achieved 9.3 per cent organicgrowth, a result which exceeded that of previousseasons by a good margin.The business’ operating revenue, excluding intersegmentsales, gains on the sale of investments and other oneoffitems, was $192 million ahead at $3.7 billion,compared to $3.5 billion in the prior year.by improved prices for protein and milk powders.It was a year in which average prices peaked at thebeginning of the second quarter, then began to comeoff historical highs.The higher average selling price, while positive for thecommodity business (Fonterra Global Trade), was felt inFonterra Brands and in our Fonterra Ingredients valueadd business, increasing raw material costs. Their abilityto offset higher input costs with increased prices duringthe year meant the impact was mitigated and this wasan important factor in Fonterra Brands’ exceeding itssales and profit targets for the year.COSTSRecord milk flows, record manufacturing totals andrecord sales volumes are reflected in Fonterra’s highertotal cost of goods sold for the season of $10.8 billioncompared to the previous season’s $10.2 billion. Alsoreflected in the increase in total costs of goods sold arehigher third party volumes of 116,000 MT and higherenergy costs.Other expenses, including interest costs, increased to$2.1 billion compared to $1.9 billion. These includedrestructuring costs of $57 million, higher interest costsof $95 million, higher advertising and promotionalspending by Fonterra Brands, $26 million relating tothe premium on redemption of Fonterra capital notesand increases in storage and distribution costs relatingto higher inventory levels during the year. These highercosts have been offset by cost improvements of morethan $130 million, with more savings forecast overthe next three seasons. The costs incurred throughrestructuring and the redemption of capital notes willresult in lower costs for future seasons.15Fonterra Brands increased sales, improved selling pricesand benefited from acquisitions such as Anchor andFresh ‘n Fruity in New Zealand. It also achieved netgrowth of 15 per cent in Fonterra Foodservices sales.Fonterra Brands’ operating surplus, essentially its EBIT,was $288 million, up nine per cent, or $23 million fromlast year, reflecting the increased operating revenuesand higher returns from our Power Brands.Fonterra Brands’ cost of goods sold, at $2.6 billion,compared favourably with the $2.5 billion of the prioryear given continued increases in the commodity priceswhich represent its main input costs.During the capital structure discussions we madea commitment to provide shareholders with moreinformation on Fonterra Brands’ performance. Moreanalysis is provided on page 37.PRICESOver the full year, average selling prices across thefull range of products were 2.4 per cent higher thanthe prior season at US$2,640 per MT, driven mainlyFonterra’s total net interest bearing debt at the end ofthe year was $5.6 billion compared to $4.3 billion asa result of funding for mergers and acquisitions; newproperty, plant and equipment; higher trade receivables;and the impact of a depreciating New Zealand currencyon foreign denominated debt. This, along with thegeneral increase in interest rates, contributed to highernet interest costs in the year of $350 million comparedto $260 million in the 2004/05 year.The late surge in sales in particular had a significantimpact on our working capital, resulting in highertrade receivables, $575 million higher than last year.Post year end we expect to drive working capitaldown to more normal levels as we receive payment forthe strong fourth quarter sales and from sales of thecarryover inventory.Our debt to debt-plus-equity ratio is 52.1 per cent.While this is outside the 45-50 per cent range set bythe Board, the Board is comfortable with this positionand our current ratio still represents a strong balancesheet going forward.FONTERRA ANNUAL REPORT 2006

16CASH FLOWThe higher working capital demands were reflectedin our operating cash flows with an outflow of $232million recorded compared to an inflow of $228 millionin the prior season. An extended discussion on cashflow and cost reductions is covered on page 28 in theChief Financial Officer’s review.SURPLUSAs a co-operative, Fonterra pays out its operatingsurplus to shareholders as payment for the supply ofmilk which this year amounted to a distribution of$5 billion including $578 million of value add returns(essentially profit).FAIR VALUE SHARE AND TOTAL SHAREHOLDER RETURNSIn May 2006, we announced a Fair Value Share pricefor the 2006/07 season of $5.80 1 , an increase of sixper cent on a like-for-like basis on the 2005/06 season’sshare price. This is the mid-point in the valuationrange of $5.37 to $6.24 provided to the Board by theindependent valuer, Duff & Phelps.The price is the result of increased valuations ofour Fonterra Global Trade, Fonterra Ingredients andFonterra Brands businesses, reflecting good progressacross all our operations.The increase in the valuation takes into account someof the business improvements being delivered andplanned in our on-going drive for efficiencies across thewhole business and improved value add earnings.This is a good result for shareholders and continues thetrend of appreciating share values in the co-operativesince our formation.At the end of 2002 the initial fair value of supplyingshareholders’ investment in Fonterra was assessed bythe independent valuer as being $4.89 per kilogramof milk solids. This was calculated on the basis of theFair Value Share of $3.85 plus an average investmentin peak notes of $1.04 per kilogram of milk solids.Based on production in 2002, this represented a totalinvestment in Fonterra of just over $5.4 billion. Thatvalue today, measured on a comparable basis withour post-transition share price of $6.56 stands at$7.9 billion.We have seen some debate this year aroundwhether the fair value method of valuation isappropriate, with a net asset backing approach putup as an alternative. Shareholders can be confidentthat the methodologies applied by the independentvaluer are best practice and recognise expectedreturns from Fonterra’s ongoing investments inmanufacturing efficiency, innovation and branding.Analysis of stock market returns over timeshowsvalues reflect future cash flows of companies.There is no reason why the same methodologies shouldnot be applied to a co-operative.Our shareholders can look back on a record of steadygrowth in the value of their investment with an averageannual increase of just over eight per cent per year.Taken together with the value added component ofpayout each year, this adds up to a return consistentwith that achieved by the better performing listedfood companies around the world.Total Shareholder Return for the season is 9.6 percent compared to 17.2 per cent in the prior season,reflecting the more modest increase in the value of ourFair Value Share. Fonterra’s average TSR since inceptionis 13.6 per cent, a result which demonstrates our abilityto generate value for our shareholders.WE’RE GROWINGIn the season under review, we sped up the momentumin growth, primarily through acquisitions, whileensuring we are lean enough to compete in the verycost competitive global market.We’ve removed unnecessary duplication in thebusiness, increased efficiency and productivity in oursites, simplified our structures so we work faster andsmarter, and deepened our relationships with our majorcustomers so that we progress toward our goal ofbecoming their preferred supplier. We’ve taken a hardlook at how we can improve our service to farmers,helping those who want to grow and to improve theirproductivity and profitability.Milk growth is always going to be important to us andour goal of three per cent more milk each year is wellknown to farmers. It’s not unrealistic. If all our suppliersmatched the productivity of our top suppliers, wewould achieve it easily. It is this increased productivitythat we seek with our growth target. We want farmersto improve their productivity and contribute to thecontinuing low cost advantage our entire supplychain enjoys.However, we recognise that farmers want clear signalsabout the value of their milk so that they can see clearlythe returns they are getting versus their productioncosts. This is an issue we are tackling now with aproposal to move to pricing signals which clearly showa milk price and a value add component of payout.Identifying the milk price and value add componentsof payout will help shareholders distinguish moreeasily the value add returns they receive. It will providethe clear signals about milk value that are needed byfarmers to make informed production decisions.Getting this transparency is a complex business. Withjust five per cent of local milk production sold here,there is no market based price for milk at the farm gatein New Zealand.1 This season is unusual in that we made a transition to our new capital structure where capital previously held as peak notes converted into ordinary sharecapital. The post-transition share price is $6.56.

Since our inception in 2001, we have used theoreticalcalculations to determine a commodity milk price forthe season based on a calculation undertaken by ourindependent valuer, Duff & Phelps, as part of theirvaluation of our Fair Value Share. It is fair to say mostshareholders find them difficult to understand andapply to their business in any meaningful way.However, we have had almost five years of workingwith these calculations and the independent valuers.Each year our understanding of the theory behindthem deepens and enables changes to be made toimprove them.We have now reached the stage where we are confidentthat we have a robust process which will enable us toachieve the milk price signals farmers have wanted forsome time. Our intention is to ultimately move to asystem where we forecast payout in two components, amilk price for the season and a value-add component.First and foremost, we need a system that shareholderscan have confidence in. Under any new system,the forecast milk price component of payout wouldrepresent the estimated underlying value of milk at thefarm gate and be paid progressively during the year. Itwould provide a benchmark against which farmers candetermine what margins they are making on their milkafter deducting their on-farm costs.The value add component will be designed to enablefarmers to see clearly how successful we are inincreasing the value of milk beyond the farm gate,primarily through our consumer business of FonterraBrands and Fonterra Ingredients value added activities.Again, it is important for farmers to see whetherthe capital invested in these parts of the business isproviding an economic return and such a system woulddeliver the transparency in value add performance thatour shareholders are looking for. This is quite firmly onthe Board’s agenda for the 2006/07 season.We also thank consumers who enjoy our brandedproducts and have played a role in their growth. Wethink we do a great job with our consumer dairyproducts, but it is loyal consumers who ultimatelyconfirm that view by purchasing our products.I thank our Directors for their commitment throughoutthe year and their willingness to not only contributearound the Board table, but also to get out amongour shareholders at regular meetings to discuss thebusiness. I want to thank Harry Bayliss for his valuedservices to Fonterra as a director, and for his nearly 20years of service to the industry in governance roles. Hehas thoroughly earned his retirement.I would like to formally welcome our new appointeddirectors, John Ballard and Ralph Waters, both ofwhom have the breadth and depth of experience tomake a significant contribution to our governance.Finally, my thanks to Andrew Ferrier, his leadershipteam and all Fonterra employees for their performance.Our results are a direct result of their efforts.Henry van der HeydenChairman17THANKSIt’s important to acknowledge the people who contributeto our strength and our success.First, I thank our shareholders for their continuedloyalty. There is growing competition for supply andwe appreciate the vote of confidence in us fromshareholders who remain committed to the co-operativeand from shareholders who have just joined us. Ourstrength begins on your farms and our growth startswith your growth in supply.The co-operative thanks our customers around theworld. We are proud of the progress we are makingin building stronger relationships with you and thegrowing faith you have shown in us, our products andour experience. We look forward to adding more valueto our relationships in the coming season.FONTERRA ANNUAL REPORT 2006

ANDREW FERRIER - CEO>

“A year of traction”

20CEO’s ReviewThe 2005/06 season was a year of traction.Savings from programmes to reduce costs and increaseproductivity have gone from forecast to reality.Unnecessary duplications in functions and costs havebeen replaced with a “do it once, do it right firsttime” structure and culture. Strategic investments havestrengthened Fonterra Brands, increased innovationand promotional spending has set the stage for growth,while in Fonterra Manufacturing our people haveboosted processing capacity and reduced costs.Even as we have celebrated new production records,our co-operative has continued to work hard on thefarm, getting a better understanding of individualfarmers’ needs and developing new service modelswhich will support shareholders who want to growtheir milk supply. Fonterra has also taken a leadershiprole in ensuring industry investments in research anddevelopment are targeted to support profitable growthin productivity.What we are beginning to feel and see are the resultsof hard work across the business in projects to capitaliseon Fonterra’s true potential as one single major player.This is all about being lean, productive and faster onour feet. It’s all about growth and it’s all about gettingpeople excited about being part of a strong, competitiveand growing business. Most importantly, it’s all aboutengaging with our farmers, encouraging them togrow and giving them the confidence to do so bydemonstrating that we are utterly focused on ensuringsustainable, profitable returns from their milk.DRIVING GROWTHThe 2005/06 season saw strategic investments madewith the emphasis on achieving value growth rightacross the business.Investments in streamlining Fonterra’s supply chainare returning dividends, particularly through greateropportunities with customers.Increasingly, we are becoming a value adding supplychain for our customers’ businesses. In Australia, asone example, we acquired Nestlé’s manufacturingfacilities at Dennington, redistributed production acrossa number of sites in Australia and now make productfor them at a lower cost while increasing our ownplant efficiency.On time delivery is up and we have a much greaterglobal footprint to service customers out of multiplegeographies, all co-ordinated through our supply chain.Increasingly, many of our international customers areseeing us as their supplier of choice, giving us verygood growth opportunities.A year of driving relentless efficiencies in Fonterrahas seen a simpler, leaner structure come together,lowering costs and improving efficiencies. The changehas meant some tough calls have had to be made.We are here to make Fonterra the supplier of choicein the dairy market for this generation, the nextgeneration and the one after that. It is critical we makeall the tough decisions we need to in order to achievethat. A growing, vibrant Fonterra will ultimately employmore people in the long term.It’s been a year in which gains on the sale of investmentshave been aggressively reinvested to position Fonterrafor the growth that will create future value forshareholders, particularly through Fonterra Brands andthe value add business of Fonterra Ingredients.Fonterra Brands acquired the Fresh ‘n Fruity yoghurtbusiness in New Zealand in a deal with New ZealandDairy Foods (“NZDF”), which also included the regainingof the Anchor brand. In all, Fonterra acquired assetsvalued at $754 million from NZDF and sold assetsvalued at $416 million including Meadow Fresh beverages and yoghurts, and Kiwi Meats, retaining theMainland, cheese and export business.The Kapiti Fine Foods ice cream and specialty cheeseand liquid milk business was acquired to further supportFonterra Brands. Under the agreement Fonterra Brandsacquired production sites at Palmerston North andParaparaumu and the rights to supply the Pam’s milkand cream brand in the lower-North Island.Bringing the Anchor and Fresh ‘n Fruity brands intothe stable was a huge step up. The Kapiti acquisitionaugments the NZDF transaction, giving us a muchstronger base in liquid milks through house brands inthe lower North Island, as well as a wonderful specialtycheese and ice cream brand.Overall, we are very pleased with the progress beingmade in the Winning Through Brands! strategy whichhas started delivering results. Sales and profits from thebusiness have exceeded targets and Fonterra Brands iswell placed for further growth.In Australia, Bonlac Foods was fully integrated intothe business enabling greater efficiencies and scale.Post balance date, Fonterra’s 43 per cent investmentin San Lu was completed, creating opportunitiesfor growth in branded product and ingredientssales in China.With Bonlac on board we now have a fully integratedbusiness in Australia, right from collecting milk throughto selling ingredients and consumer products in Australiamade from local milk and augmenting our global exporttrade with product sold from Australia.The acquisition of 43 per cent of San Lu was the naturalnext step into China and again, we see opportunities tobecome an integrated business in the Chinese marketplace, collecting milk and moving it up the value chainto consumer products in hundreds of cities in China.

The combination of San Lu’s distribution capabilitiesand our deep knowledge of all aspects of dairy make usoptimistic that we have a real winner in China.customer relationships. Manufacturing efficiencies, lowercosts to serve, simpler transactions and procurementsavings have all created a leaner operation.In the Fonterra Ingredients value add business asignificant step forward was made with the creationof DMV Fonterra Excipients, a joint venturebetween Fonterra and a major European dairycompany, Campina.In this move we have taken one of our productcategories and created a world class business, with thejoint venture becoming one of the largest providers ofdairy based excipients to the world market with plantsin New Zealand, Germany and Holland.The joint venture culminates a staged growth pathwhich began when Fonterra took its first steps withexcipients by making the pharmaceutical grade lactoseused as the carrier for active drug formulations intablet form.Next we invested in plant to manufacture inhalationgrade lactose, developing a very solid market positionin Australia and Asia. That was the key to the jointventure, because with Campina’s DMV subsidiary strongin Europe, combining our two operations enabled us tobecome a truly global supplier.Investments have also been made to strengthenFonterra’s manufacturing and supply chain capabilitiesincluding the $40 million upgrade of the Te Awamutusite, the $37 million rebuild of the Takaka site andupgrades of Soprole plants in South America.Meanwhile, service to farmers is stepping up to a newlevel with the RD1/Landmark joint venture linking 51RD1 rural retail stores in New Zealand and Landmark’s430 stores in Australia.Through the joint venture in New Zealand, Fonterra’sRD1 stores will introduce new services in finance,insurance, and real estate, and an expanded livestocksales service, drawing on Landmark’s expertise in theseareas. Products and services catering to the beef, sheepand cropping sectors will be introduced over time tocomplement RD1’s existing strengths in dairy. RD1 willalso gradually expand its network of stores, particularlyto cater to Fonterra suppliers in the South Island. InAustralia, Fonterra’s experience will be used to expandLandmark’s products and services to the dairy sectorin Victoria.DRIVING PRODUCTIVITYFonterra in 2005/06 has emerged as a much leaner,more cost effective business. It is enjoying the first fullyear’s results from the Jedi programme with $50 millionof benefits booked and more to come. Completedlast season, the programme streamlined how productis ordered, supplied and paid for and touched everypart of the Ingredients business from manufacturingto production forecasting inventory management andThis work has resulted in a number of efficiency gainsin the business, but we can never assume that all thework is done. There will always be opportunities toimprove how we work and we will always regard theprogramme as a first and very necessary step on theroad to ensuring Fonterra remains as efficient and costcompetitive as possible.Gains are also flowing through from OperationsJourney, a five year programme to lock down Fonterra’scompetitiveness as a manufacturer of low cost dairyproducts at scale. It has delivered cost savings, throughincreased first time grading performance, reduced yieldlosses and fostered a culture of “right first time” inFonterra Group Manufacturing.A “One Fonterra” programme has removed duplication,lowered costs and increased efficiencies. Where before,Fonterra Brands and Fonterra’s commodity businesseshad their own backroom support in areas such ashuman resources, communications, informationservices, procurement and finance, that’s all nowcombined as one team, reducing costs. All manufacturingactivities worldwide are coming under one FonterraGroup Manufacturing function along with supply chainfunctions and production and planning activities.What we are doing is getting streamlined functionsthat are more cost effective, deliver better service,enable faster responses and are having an impact onthe bottom line.EMPHASIS ON PEOPLEHaving made tough calls to structure Fonterra moreefficiently, the leadership team is now working hard topush empowerment across the business to give peoplethe ability to make decisions at the right time and atthe right level. My goal is a Fonterra culture based onpeople getting excited about being part of a strong,competitive and growing business.We’re very focused on being a clear winner in theglobal dairy trade. We will do that because of the ideasof our people and their efforts. We strongly encouragepeople to keep challenging the status quo, to thinkdifferently, and we reward them for independent andstrong thinking as well as great teamwork.Andrew FerrierCEOFONTERRA ANNUAL REPORT 200621

ADDING VALUE TO COMMODITIESJOHN SHASKEY22JOHN SHASKEY - MANAGING DIRECTOR FONTERRA INGREDIENTS>Can value add be used to describe commodities? No itcan’t, but where you sell commodities and the way yousell them can add value. Broadening the appreciationthat added value Ingredients is a combination ofproduct and service offerings to customers is achallenge that John Shaskey, Managing Director ofFonterra Ingredients, has been dealing with over thelast 12 months.He has spent a good part of the past season emphasisingthat the high value, but low volume specialty ingredientssold by Fonterra are just the tip of the value addiceberg. This has led to a restructuring of the businessmodel for commodities trading, with Fonterra GlobalTrade devoted to core commodities made and soldat the best price and Fonterra Ingredients devoted toadding value. It’s a significant shift in thinking, workingand culture.“It reflects total recognition of the fact that we cannotbe a successful entity as a whole by counting on ourcommodity business to deliver year after year. Wehave to have the added value businesses contributesignificantly more to payout performance and sharevalue appreciation for Fonterra to be on a soundfooting in the future.”Even as commodity sales values and volumes have hitrecords in the season, John Shaskey and his team havedug deep into the business, defining what value addreally means for the world’s largest dairy exporter.“We have always thought of our value add businessas being a very small part of our total business. But aswe have pulled the whole business apart to understandwhere we create value beyond the commodity value ofmilk we have formed a very clear view that in fact, in 40per cent of our ingredients business we add value.“In some cases, it is selling commodities in highvalue markets where specifications, service deliveryrequirements or customer relationships combine torealise a better price. Some of the value we add isthrough how we sell the product and the services weoffer such as distribution, technical support, workingwith customers around innovations, or creatingingredients with particular value for customers. Thereare a whole lot of ways we add value that we havenever fully appreciated in the past.”Global Trade, says John Shaskey, is all about having noillusions about what customers want and get.“They want the right commodity at the right price.That’s all they are interested in. To deliver we need acore commodities business that is as simple as it can bewith as few products as possible, long production runsin our sites and very straight forward sales processes.”In core commodities markets, primarily South East Asia,the Middle East and Latin America, the sales forcehas been scaled back to fit the needs of the business,driving down the cost to serve. In value add markets,such as the US, Japan, Korea and Europe, more peoplewith the skills and knowledge to work much closer tocustomers are being deployed.“They have a very clear mandate to get on and workwith customers, understand the innovation supportthey need, work on solutions for them and thencommercialise with the appropriate customers. Weunderstand markets where we have to have incrementalgrowth in infrastructure to support our value addedstrategy. Ultimately, the game is to build commoditymarkets into value add markets where there is abusiness case to justify that.”The value add team has made good progress inenhancing relationships with key global customersand working with them in a collaborative way in anumber of areas such as supply chain and new productdevelopment.“This is a very different culture to that needed in corecommodities and it really does position us as a realcompetitor with other value add food ingredientsorganisations. The value add business that exists todayis the foundation to build a much more significantand profitable business in the future. It provides theplatform for us to create a culture that will reallyaccelerate our growth through providing customerswith a range of value add offerings.”Having a core commodities and value add split alsomore closely aligns a significant chunk of Fonterra’scapabilities to its strategic goals to be the leadingglobal dairy product marketer, a developer of valuablecustomer partnerships, a specialty milk componentsinnovator and provider and the lowest cost supplier ofdairy products to global markets.The potential of the new structure has shown throughin the 2005/06 season. In key commodity sales hubssuch as South East Asia, the Middle East and Africa,strong sales growth was achieved, especially as oilexporting nations ramped up commodity imports tomeet higher demand. Fonterra’s higher commodityvolumes included over 500,000 MT of products sourcedin markets such as Australia, the US and South Americato meet customer demand.In the value add market of the US, the businessincreased sales revenues, with improved pricesachieved as sales volumes remained relatively stableyear-on-year.

IN CORE COMMODITIES MARKETS LIKE ASIA, we’re making the business as simple as it can be, while inthe US, Japan, Korea and Europe, more people with the skills and knowledge to work muchcloser to customers are being deployed. That’s how you add value in commodities.

US revenues include sales of US-origin productproduced by the Fonterra and Dairy Farmers of AmericasDairiConcepts joint venture at Portales in New Mexico.Japan is another value add success story with Fonterraincreasing sales through focusing on key customers,understanding their producer and services requirementsand delivering to secure the business in a highlycompetitive environment.John Shaskey’s goal is to transform Fonterra fromthe world’s biggest trader to the world’s bestfrom its new Fonterra Global Trade and FonterraIngredients platform.“In Global Trade, it’s about having strong sales peoplewho can go in, talk to customers on their own termsand get the business done. In the value added side,we will have people having a completely differentconversation with the customers about innovation,production development, speed to market. Being thebest is about the right people in the right place. That’swhat we now have.”EXCEEDING SALES AND PROFIT TARGETS SANJAY KHOSLA24SANJAY KHOSLA - MANAGING DIRECTOR FONTERRA BRANDS>Ask Fonterra Brands Managing Director, Sanjay Khosla,what his mission is and the answer is “to build greatbrands which make money”.And his assessment of the 2005/06 season is thatthe Winning Through Brands! strategy has starteddelivering results.“We are delighted that we have exceeded our sales andprofit targets, despite paying the highest commodityprices for five years. High input costs made the targetsmore challenging, so hitting them is a real achievement.And we’ve done it in a year where we also restructuredthe business, bedded down major brand acquisitionsin the Anchor business, Fresh ‘n Fruity and Kapiti ,completed negotiations for a joint venture with San Luin China, and made some tough decisions abouthistorically underperforming markets.”Fonterra Brands’ operating revenue, excludingintersegment sales, gains on the sale of investmentsand other one-off items, was $192 million ahead of lastseason at $3.7 billion, due to increased sales, improvedselling prices and benefits of brand acquisitions such asAnchor and Fresh ‘n Fruity in New Zealand.Fonterra Brands’ operating surplus (essentially its EBIT)was $288 million, up $23 million or nine per cent fromlast year, reflecting the increased revenue and higherreturns from Power Brands.This was despite investments in innovation, advertisingand promotions increasing by 28 per cent over theprevious year.“Our Winning Through Brands! strategy is clearlyworking and we are happy with where we are on thejourney. We are moving the business towards sustainedprofitable sales growth through increasing investmentin our Power Brands and Foodservices, while reducingour cost base”.POWER BRANDS IN ACTIONA good example of the growth in Power Brands isAnlene “the expert in bone nutrition”. While Anlene was a success when it was initially launched in 1990,for the past few years the brand has been in decline.This year a relaunched Anlene has achieved doubledigit sales growth in Asia and has now been rolled outin Australia and New Zealand.The Anlene team has also established a groundbreakingpartnership with leading healthcare company,G.E., to tackle bone health issues using Anlene bonehealth products and GE Healthcare’s bone mineraldensity technology.Foodservices has also had an excellent year withgood profitable growth, despite the impact of highcommodity prices. The Foodservices team has focusedon developing strategic relationships with key globalaccounts, laying the foundation for future growth.The restructuring of the Fonterra Brands’ business hasseen improved leadership capability, more resourcebehind Power Brands and Foodservices, rationalisationof the supply chain and support services, and integrationof newly acquired brands and businesses.FOCUS ON BRANDS, MARKETS“We’re making tough choices and simplifying thebusiness to focus on markets and brands that deliversustainable profitable growth.”The year’s progress follows a thorough review of thebusiness, including markets and brands.Underperforming businesses in Russia and Egypthave been divested, and replaced with supply ordistributorship agreements. Meanwhile in-marketrepresentation in Saudi and the United Arab Emirates ismoving towards a more efficient business model. Thiswill be an ongoing process.

The new leadership team has brought a new dynamicto Brands, and building talent and expertise continuesto be a priority.“Nurturing talent is the most important agenda acrossFonterra Brands. We have good people and the morewe develop their capabilities, the more our performancewill increase. A teams get A results while B teams getD results.”Power Brands and Foodservices, continue to clean uphistorical underperformers (both brands and markets),and reduce costs by simplifying the business.“We’ve had some great results this season and theyfuel our desire to continue to perform. We have someambitious goals for the next few years, but it’s all aboutconsistently pushing our Winning through Brands!strategy to meet our financial targets.”Priorities for the next financial year are to keep buildinga strong talent base, drive further growth in theLESS COMPLEXITY, MORE PRODUCTIVITYGUY COWAN26GUY COWAN - CFO>As a lean business, Fonterra is striving for less complexity,faster decision making and greater productivity. It isalso targeting costs, including more effective finance, ITand procurement, driven by CFO Guy Cowan.Fonterra achieved over $130 million in cost savings forthe season. Of that, $30 million came from reducingunnecessary costs, eliminating duplication in Financeand centralising procurement.“We have brought all the previously duplicated activitiesunder one governance structure and we’ve put expertsin to manage those functions. As a result, we have notonly hit our cost reduction targets for the season, buthave also identified savings to be delivered over thenext three years,” he says.In procurement, over $100 million in savings will beachieved over three seasons. A specialist team headedby an expert procurement negotiator and managercurrently covers New Zealand and Australia and will berolled out across Asia.Under their control are major contracts for packaging– Fonterra spends $400 million a year on that alone– energy, engineering services, consulting and more.For example savings of more than $25 million havebeen achieved by rationalising Fonterra’s tanker fleet toone specification and carrying out a competitive tendercovering long-term maintenance contracts.CONSOLIDATION CUTS COSTSBringing all of Fonterra’s Information Services underone management structure supporting Fonterra’s globaloperations provides the opportunity to standardisesoftware, infrastructure spend and applicationssupport, driving costs down without compromisingservice levels.An increasing number of financial transaction processesare now consolidated under Fonterra Business Services,where costs have been reduced year on year. The teammanages payments to suppliers, collects cash fromcustomers, controls the fixed asset register and preparestrial balances and general ledger reconciliations.“That move and the centralised management of GlobalTreasury means we control cash better, we have muchbetter transparency around our cost structures andaccess to all the necessary financial information toensure the business can make sound decisions quickly.It also means we can focus finance staff on valueadding activities supporting critical decision makingand performance tracking.”“The end game is to run integrated systems across nomore than one or two platforms, updating data bases inreal time so that management and financial informationis accessible with minimum manual interface.”“We are heading in the right direction there. Ultimatelywe will have one system and one financial databasewith reporting tools that deliver a higher level ofinformation that will make us better at anticipatingwhere we can maximise returns. For example, using oursystems we will be able to determine which customersand products give us the highest contribution and tailorour production to maximise that contribution.”FOREIGN EXCHANGE REVIEWAs well as implementing a shared services model, GuyCowan keeps Fonterra’s foreign exchange managementunder review as the New Zealand dollar reachedhistorical peaks against the US and looks likely totrend down.“We have benefited from having 15 month hedgingas the currency has appreciated and that’s given usadditional revenue over the past three years. But as thecurrency has begun to peak, we have had to look againat how we manage the situation so we can actively addvalue. For example when currency is weak it is clearlybest to lock in positions, but as it rises we want tomake sure we keep the door open to gain from anycurrency depreciation.

FONTERRA SPENDS AROUND $400 MILLION A YEAR ON PACKAGING ALONE – the bags, wraps and pallets yousee here all come under that heading. A specialist procurement team, led by an expertnegotiator, is driving down costs in this area, and others, right across the business.

We use options and run the book shorter. We stillmanage prudently to achieve a balance betweencertainty and added value.”DEBTGuy Cowan has also reviewed Fonterra’s debt financingcosts, a move which led to the redemption of asignificant number of capital notes on issue with theNZDX in July 2006.“The solid trading and credit history Fonterra has builtup since it was founded means other, cheaper forms offinancing are now available to us. We are able to makesubstantial saving on the interest expense through therefinancing while still managing redemptions risk.”CASH FLOWSFonterra is a cyclical business, as such we will alwaysensure we have enough inventory on hand to carry usthrough the period of low production, typically May– August. This year, due to commodity prices beingahead of where they were last season and higher thanaverage production in April/May, closing inventorieswere higher than last year. Trade receivables were alsohigher due to an unusual sales programme this yearwith high sales volumes in quarter four following aslower sales programme in the middle of the 2006season. Higher working capital resulted in an operatingcash outflow of $232 million for the year.Cash flow is important in every business and Fonterrais no exception. “We are always looking closelyat managing cash flows, whether it is by carefullymanaging our costs, our working capital or ourinvestments in fixed assets. This is an area we continueto focus on. Our balance sheet remains strong and weintend to keep it that way.”Cash received from the sale of the carryover inventoryalong with the receipt of cash from the quarter foursales has resulted in positive operating cash flows at thebeginning of the 2006/07 season.“My acid test, when it comes to cash flows, is theconfidence lenders have in the business. Fonterra holdsa AA- rating from Standard & Poor’s with a stableoutlook,” says Guy Cowan.“In a cyclical business such as ours, short-termoperating cash flow is one of the measures we track,but a healthy balance sheet, constant focus on costreduction and maximising return to shareholders areour top priorities.”28GLOBAL MANUFACTURING VIEW LEVERAGES EXPERTISEGARY ROMANOGARY ROMANO - DIRECTOR OF FONTERRA GROUP MANUFACTURING>A map of the world shows Fonterra GroupManufacturing’s scale. There’s barely a country withouta dot representing some form of manufacturing orprocessing. New Zealand has 24 primary sites, Australiais dotted with 10. Another 50 sites are scatteredaround the globe in South East Asia, Africa, theAmericas and Europe.The scale is vast to process nearly 20 billion litres ofmilk each year – 14 billion in New Zealand. But GaryRomano, Director of Fonterra Group Manufacturing,says the power of the assets doesn’t lie in the stainlesssteel, but the people who run them.“It’s all about expertise. We are here to make ouringredients and consumer businesses successful,whatever market they want to be in. We’re hereto build new plant, make the best use of old plantand to leverage our capability right across the groupand around the world. If you want it made, wewill make it better than you expected at the lowestpossible price.”Fonterra’s processing assets were gathered into aglobal group a year ago so that one view of ourentire capabilities could be formed, a culture of globalexcellence created and the assets used more effectively.Since then, progress has been steady.In New Zealand, for example, Fonterra’s four cheesecutting, grating and shredding operations are beingconsolidated into one modern plant in Taranaki. Oncompletion, the new plant will produce more than80,000 tonnes of consumer packaged cheese a yearfor the New Zealand, Australian and Asian markets,marketed under the Mainland , Chesdale andAnchor brands. The plant has the capacity to increaseprocessing by up to 30 per cent.Similar consolidation is being undertaken with secondarypowder processing, carefully managing which productsare to be packed in New Zealand and which offshore.LOCKED, ALIGNED, COMPLEXA priority for Gary Romano and his team has been toramp up the efficiency and lock down the costs of theNew Zealand processing sites responsible for the vastbulk of Fonterra’s production. Today’s sites are nowdescribed as “locked”, “aligned” or “complex”.A locked site makes just one specification of product– whole milk powder for example – enabling very longproduction runs which reduce energy and cleaningcosts, and minimise yield losses and grading failures.Aligned plants make a limited range of specifications,again reducing manufacturing changeover times and

WE ARE HERE TO BUILD NEW PLANT, make the best use of old plant and to leverageour capability across the group and around the world. If you want it made, we willmake it better than you expected at the lowest possible price.

30BARRY HARRIS - DIRECTOR FONTERRA MILK SUPPLY>downtime, while promoting higher yields and bettergrading performance. Complex plants manage technicallychallenging specifications or multiple short runs, withthe capability to change from one product specificationto another in a matter of hours or even minutes.“It is a simple concept, but it has involved marketing,sales and operations planning and manufacturingworking together to make the right decisions for thebusiness. The results have been significantly lower costswith similar levels of customer servicing maintained.”Having locked and aligned plants also ensures capital isinvested to maximum effect. In April 2006, for example,two new dryers were commissioned at Te Awamutu,a plant aligned to powder specifications. The newdryers replace three old ones and boast a combinedprocessing capacity of 13.5 tonnes of powder per hour.They are considerably more energy efficient than theones they are replacing, which will enable Fonterra torealise significant savings in operational costs.BETTER GRADES, YIELDSWith plants no longer all things to all people, first timegrading performance has increased to 94.2 per centfrom 93 per cent in the prior season. Losses are down16 per cent to three per cent. Uptime, the time ourmanufacturing plants are actually producing productand not in maintenance or cleaning mode, has increasedby three per cent. Energy consumption has come downby 10 per cent which has partially mitigated soaringprices, a feat recognised with Fonterra’s winning theEnergywise Award for the second time in the past threeyears from the Energy Efficiency and ConservationAuthority (EECA). With energy Fonterra’s third largestmanufacturing cost, behind only labour and plantdepreciation, the savings make a significant contributionto Fonterra’s international competitiveness.Fonterra Group Manufacturing is adopting newtechnologies to drive efficiency gains and slash costs.“Lights out packaging” – automated packing ofproduct, has been trialled at one locked plant andwill be rolled out at others. Technology to increasesolids concentration in evaporators, developed byFonterra, is also under trial. Leading-edge concentrationand automation technologies at our Tuamarina siteENCOURAGING SUSTAINABLE AND PROFITABLE GROWTHAs Director of Fonterra Milk Supply, Barry Harris has agood feel for farmer sentiment. Right now, he says, it’spretty positive.“We have just completed a very good season with thehighest milk flows ever. We are seeing new conversionsto dairy. Dairy is still the most profitable use ofagricultural land and we’re seeing significant increasesin cow numbers. Clearly, with the prospects for ourhave enabled substantial transportation savings andenvironmental benefits, by reducing the numberof tanker trips needed to deliver our milk fromMarlborough to Clandeboye by about 3,000 trips ayear. Further technological advances are being targetedwith the creation of the Manufacturing InnovationGroup. This group was formed recently with the formerFonterra Innovation function being moved out into therespective parts of the business where value is created.BETTER, FASTER, SMARTERGary Romano says Group Manufacturing is alsocontinually achieving returns from its OperationsJourney programme with its “better, faster, smarter”focus. Its aim is to optimise performance, leverageFonterra’s manufacturing scale and achieve operationalexcellence to support Fonterra’s strategy of beinga low cost supplier and its value add push. TheManufacturing Excellence programme running inNew Zealand challenges staff at sites to continuouslyfind better ways of working. The programme is rollingout in Australia.“There are fantastic stories coming out of thatprogramme. At Clandeboye, for example, we havebrought coal costs down significantly because ourguys worked out how to balance the loads on theboilers that provide energy to the site. We have anationwide project on compressed air use, matchingloads, eliminating unnecessary use and tracking leaksin lines. That looks like it will deliver significant savingsover the next two years.”Despite Fonterra’s manufacturing being groupedglobally for less than a year, Gary Romano is pleasedwith progress to date and energised by the potentialfor bigger gains.“Our focus has been in New Zealand and to a lesserextent Australia, so there’s a lot more that can be done.We have some priorities around driving best practice inour consumer manufacturing sites, and others aroundincreasing uptimes, building on our yield gains andimproving our delivered in full, on time performance. Inenergy, we’re looking to trim another five per cent offour consumption. It’s going to be a full on year.”BARRY HARRISproducts in the international markets looking good, ourfarmers are expressing confidence in the industry.“That’s reflected in a good season and the clearpotential for ongoing milk growth.”Encouraging that growth and ensuring it is sustainableare two of his main responsibilities. Good progress hasbeen made in the season towards aligning FonterraMilk Supply’s services to supporting farmers who want

WE HAVE A NEW SERVICE MODEL FOR SUPPLIER RELATIONSHIPS. It’s about better understanding theneeds of individual farmers and targeting our services to their needs. We’re moving froma “one size fits all” approach to treating farmers as individuals.

32to grow. It’s a shift in thinking, from Fonterra takinga “one size fits all” approach to a new service modelwhich treats them as individuals.“One of our key achievements is developing a newservice model for supplier relationships which is aboutbetter understanding the needs of individual farmersand targeting our services to their needs.“We’ve recognised that there are people who wantto grow and there are others who are ticking overcomfortably. As a result, their expectations of us aredifferent and we will be much more targeted in the waywe help them.”SERVICE MODEL REVAMPEDFonterra Milk Supply is rolling out a new service model,including regional service centres where farmers canconnect with a consistent team of experienced peoplewho know the area, the individuals who farm thereand any climatic and environmental challenges theyface. At the same time, the former Field Representativenetwork is being freed up to provide more detailedfarming, business and environmental advice to farmerson a growth path, with their roles being renamedArea Managers.The model responds directly to feedback from farmerswho have stressed the need for service that adds valueas well as being value for money and working withFonterra-based representatives who have the strongindustry knowledge needed to work with farmers toresolve issues and respond to their needs.Fonterra is a major partner in the drive to increaseprofitable on-farm productivity being led by Pastoral 21,a collaboration of industry organisations. One of its aimsis increased funding for research; another more targetedresearch that directly supports productivity goals.“As an industry we are working more effectively andcollaboratively to agree on where we put our investmentto get the best result for farmers. Resources are notunlimited, so it’s vital that what we have is invested inthe right programmes in a very targeted way.”SUSTAINABLE MILK GROWTHFonterra is targeting growth of three per cent in milksupply each year, but it isn’t growth at any pricewith the co-operative’s foundation theme reinforcingprofitability and sustainability.“We want to encourage growth through improvementsin productivity. That helps enhance farmers’ profitabilityand over the long term helps solidify our globalcompetitiveness. One of our big challenges isdealing with issues around the environment andsustainability. We are making good progress on thesustainability front, working with a whole range offarming stakeholders to ensure we have profitable andsustainable dairy farming.”In March 2006, the dairy industry agreed a sustainableenvironmental management strategy to change dairy’senvironmental impact while maintaining productivity.The strategy is based on the whole industryco-operating to develop, trial and communicatemethods that improve farmers’ ability to addressenvironmental issues. It covers the leadership neededto encourage change and demonstrate its benefits, theactions needed to get farmers understanding and usingtools to improve their environmental performance andthe targeted research needed to develop ways to helpfarmers meet environmental objectives.“This is a big step forward. It’s a strategy thatco-ordinates industry investment and activities in a waythat targets the priorities of the dairy sector. There’sa lot to be gained in a very targeted approach whichsays ‘here are our priorities’ and puts actions plansbehind them.”ENVIRONMENTAL STEWARDSHIPBarry Harris, a former CEO of Environment Waikato,says there’s been a sea change in attitudes towardsfarming sustainability and the need to balance growthwith stewardship of the environment.“The shift in attitude and commitment to do somethingis considerable and very encouraging.”He points to the very positive results coming out ofthe Clean Streams Accord as evidence of progress. TheAccord, signed by Fonterra, regional councils and theMinisters of the Environment and Agriculture in 2003,aims to achieve clean healthy streams, rivers, lakes andwetlands in dairying areas.Already 75 per cent of farmers have excluded dairycattle from streams, rivers and lakes versus a 2007target of 50 per cent; 93 per cent of race crossingpoints have bridges or culverts against a 2007 targetof 50 per cent.The results are less spectacular in the area of nutrientbudgeting where 33 per cent of farms had managementsystems in place against a target of 100 per cent by2007, although recent data suggests this has improvedto 57 per cent.“We’ve been putting a great deal of emphasis onnutrient budgeting and that’s starting to shift thenumbers. We ran nutrient management workshopswith Dexcel that were attended by more than 2,000farmers and rural professionals and saw the numberof suppliers with nutrient management programmes inplace double.”Also rolled out in the year is the Milk CollectionProgramme of Work through which a significantinvestment has been made in upgrading the technologyof the tanker fleet. Radio frequency identificationtags are being fitted on milk vats which allow

automatic identification of the farm and the vat. Newmilk sampling technology allows the volume andtemperature of the milk collected to be stored onanother tag, providing very accurate traceability.In-cab technology is enabling the more efficientscheduling of tanker movements, which over time willenable more milk to be collected by fewer movements,driving down fuel use and road user charges as well astotal fleet costs.The joint venture between RD1 and Landmark, alsocompleted in the past year, means RD1’s 51 rural retailstores will introduce new services in finance, insuranceand real estate, as well as an expanded livestock salesservice drawing on Landmark’s expertise, built up withits 430 stores in Australia. Again, the motivating forceis improving service levels for farmers while ensuringa level of healthy competition in the rural supplyfield so that farmers get the best value fortheir money.“We strongly support the idea of a competitive, lowcost rural supply sector and the joint venture will havea valuable role to play here.”Barry Harris’ priorities for the coming seasoninclude bedding in the new, more targeted servicedelivery model, supporting increased growth inmilk supply and engaging strongly with stakeholdersaround profitable sustainable dairy farming. Hestarts from a good position, with farmers surveysshowing 80 per cent of them regard Fonterra MilkSupply’s performance as very good to excellent.33FONTERRA ANNUAL REPORT 2006

PERFORMANCE MEASURES34The lack of competitors of a similar size and scalewithin New Zealand, and the absence of a marketdetermined price for milk requires Fonterra to adopta set of theoretical performance measures to assistshareholders in assessing performance on a basisconsistent with traditional businesses operating in acompetitive market.FAIR VALUE SHAREThe Fair Value Share essentially reflects the value ascribedto the expected future returns to shareholders from ourvalue added activities. It represents the additional returnFonterra is able to earn in excess of a business sellingonly basic commodity products from New Zealand. Assuch, it captures the value associated with Fonterra’ssale of consumer and foodservice products withinBrands, and value add sales within the Ingredientsbusiness, as well as from future opportunities to increasevalue add returns through product innovation andmanufacturing efficiency. It also reflects the expectedfuture earnings of Fonterra’s investments and jointventures. The Fair Value Share is set by the Board basedon a valuation range determined by an independentvaluer appointed by the Shareholder’s Council.Our Fair Value Share rose from $5.44 in the 2005/06season to $5.80 for the 2006/07 season. After makingappropriate adjustments for the impact of the capitalrestructuring this represents a six per cent increase. Thisis the fifth annual increase in the Fair Value Share.Duff & Phelps, LLC (Duff & Phelps) 1 independentlyvalued each share at between $5.37 and $6.24 (priorto the consolidation of the share standard to beundertaken in November 2006), compared with a rangeof $5.03 to $5.85 for the 2005/06 season. The increasereflected Duff & Phelps’ recognition of the anticipatedbenefits of the cost saving initiatives undertaken duringthe 2005/06 season and the ongoing improvement invalue add earnings anticipated in the Ingredients andBrands businesses.MILK PRICE GAPSince its formation Fonterra has calculated the MilkPrice Gap as one of its key performance indicators.The Milk Price Gap is a performance measureaimed at comparing the performance of Fonterra’snotional commodities only business with that of thehypothetical efficient competitor. The gap representsthe difference between the Historical Commodity MilkPrice (Historical CMP) and the Fonterra CommodityMilk Price (Fonterra CMP).The 2005/06 Historical CMP is assessed at $3.85 perkilogram of milksolids and the Fonterra CMP is assessedat $3.62 per kilogram of milksolids. Accordingly thecurrent season Milk Price Gap is calculated at 23 cents.The 2005/06 Milk Price Gap is the same as the reported2004/05 Milk Price Gap of 23 cents but in 2005/06certain methodology refinements were made to thecalculation of the Historical CMP and Fonterra CMP tobetter determine a more representative price of milk.Had the previous methodology been applied to the2005/06 season the Milk Price Gap would have reducedto 19 cents, a reduction of four cents. Correspondingly,a restatement of the 2004/05 Historical CMP andFonterra CMP on the basis adopted for 2005/06 wouldhave resulted in a Milk Price Gap of 27 cents, similarlyimplying a reduction in the gap between the twoseasons of four cents.There are a large number of components in theHistorical CMP and Fonterra CMP that can affectthe gap including differences in installed plant, plantutilisation, product mix, working capital and operatingexpenses. Further there are inherent limitations in themeasurement of the Historical CMP and Fonterra CMP,both of which involve a significant number of subjectivejudgements and assumptions. It is therefore doubtfulwhether either measure can be reliably determinedwithin a margin of error of less than one per cent.Accordingly, it is not appropriate to place too muchreliance on small movements in the Milk Price Gap,which is the product of both the Historical CMP andthe Fonterra CMP.Notwithstanding these issues, Fonterra continues toanalyse the component parts of the Milk Price Gap toidentify areas where improvements within its controlcan be achieved. Fonterra is also developing alternativemeasures of long-term efficiency including internal andexternal benchmarking.TOTAL SHAREHOLDER RETURNTotal Shareholder Return (TSR) is a common measure forevaluating a shareholder’s total return on investment.For a conventional listed company TSR is calculatedas the total return comprising dividends paid and anychange in share price over the year, divided by theshareholder’s investment at the start of the year.As a co-operative Fonterra does not pay dividends butdistributes virtually all its income to shareholders in theform of payout. For the purposes of determining a TSRfor Fonterra, total return is defined as payout less theHistorical CMP plus the appreciation in the Fair ValueShare over the year. The Historical CMP is applied tothe TSR as it is consistent with the milk price appliedin the Fair Value Share. The investment is defined asa shareholder’s investment at the start of the yearcomprising both the Fair Value Share and Peak Notes.Total returns for 2005/06 were 61 cents per kilogramof milksolids. This included a TSR Value Add componentof 25 cents.1 During 05/06 the company’s previous valuer Standard & Poor’s Corporate Value Consulting (S&P CVC) was sold to international valuation firm Duff & Phelps,LLC (Duff & Phelps). Almost all the staff from S&P CVC including the entire team that work on the Fonterra valuation transferred to Duff & Phelps.The Shareholders’ Council assigned the S&P CVC valuation contract to Duff & Phelps.

PERFORMANCE MEASURES – continuedDividing the total return earned by the openinginvestment results in a TSR for the current season of9.6 per cent. This compares to a TSR of 17.2 per centfor the 2004/05 season and 11.0 per cent for the2003/04 season.Fonterra’s annual compound average TSR for the lastfour years is 12.7 per cent.VALUE ADD CONTRIBUTION TO PAYOUTAnother key performance metric applied in assessingFonterra’s results is the Value Add Contribution toPayout. This represents the returns earned by Fonterrain excess of those that would be earned by sellingthe shareholder supplied milk as undifferentiatedcommodity only products. The Value Add Contributionto Payout for a particular season is calculated as totalpayout less the Fonterra CMP.For 2005/06 the Value Add Contribution to Payoutis assessed at 48 cents per kilogram of milksolidscompared to 45 cents per kilogram of milksolidsin 2004/05. The table below summarises the keycomponents of Payout in recent years.PAYOUT SUMMARYNZD per kg/MS2005/06* 2004/05 2003/04 2002/03Payout 4.10 4.59 4.25 3.63Historical CMP 3.85 4.37 3.97 3.34Milk Price Gap (0.23) (0.23) (0.20) (0.18)Fonterra CMP 3.62 4.14 3.77 3.16Value AddContribution to Payout 0.48 0.45 0.48 0.47*Methodology changes were made in the 2006/07 season which do notmake the result comparable with prior years.QUOTAThe return that we earn from selling into quota marketsat a price over and above the market price (known asthe Quota Rent) is treated as a value add activity. Thelevel of quota rent earned has decreased significantlyfrom 14 cents per kg/MS in the 2002/03 season to fourcents per kg/MS in the current season. This decrease isdespite the volume of quota sales remaining relativelyconstant over the last four seasons. The decrease invalue add quota returns is driven by the increase inmarket prices relative to quota prices together with theappreciation in the NZD.In the table below we have converted Fonterra’shistorical value add earnings at the 2005/06 conversionrate and normalised the historical results to the level ofquota rents earned in 2005/06. The table shows thaton this basis the value add earnings have increased by71 per cent over the last four seasons.HISTORICAL VALUE ADD RETURNS2005/06 2004/05 2003/04 2002/03Value add returns(NZD/kg/MS) 0.48 0.45 0.48 0.47Average AnnualConversion Rate 0.66 0.61 0.52 0.48Value add returns– Normalised for FXat 05/06 Rate 0.48 0.42 0.38 0.34Quota Rent Differential– Normalised at05/06 levels 0.00 (0.02) (0.06) (0.06)Value add returns– Normalised for FXand Quota 0.48 0.40 0.32 0.2835The table above shows a relatively consistent levelof Value Add Contribution to Payout throughoutthe period with the 2005/06 result being at the topof a fairly narrow range. The apparent consistencyof value add earnings does not reflect a number ofseason specific events and macroeconomic variableswhich have a significant impact on the assessed levelof Value Add Contribution to Payout including theimpact of changing FX rates, changes in commodityprices and quota rents. These three key factors arediscussed below.FOREIGN EXCHANGEFonterra’s value add earnings are predominately basedin US Dollars and converted back to NZ dollars. Overthe last four seasons Fonterra’s average conversion ratehas increased from 0.48 in the 2002/03 season to 0.66for the current season.COMMODITY PRICESValue add earnings, particularly in the Ingredientsbusiness, also tend to be impacted inversely bycommodity prices. In periods of increasing prices valueadd margins tend to be compressed as it takes timeto push through the increasing commodity prices tothe value add selling price. Conversely in periods ofdeclining commodity prices, value add margins increaseas selling prices decrease at a slower rate than theunderlying commodity price. Over the last four seasonscommodity prices have increased to record highs whichhas impacted on all of Fonterra’s value add businesses.FONTERRA ANNUAL REPORT 2006

PERFORMANCE MEASURES – continued36MILK PRICEAs a co-operative, Fonterra distributes virtually all itsincome to shareholders in the form of payout. Thispayout is paid in proportion to the supply of milksolidsreceived from the shareholders.For performance purposes it is important to divide thissingle payout figure between the payment for the milkand the return on the co-operative’s value add activitiesand investments.Fonterra processes approximately 95 per cent of allNew Zealand milk and accordingly there is not a validmarket based price for liquid milk acquired withinNew Zealand. Further, at this time, it is not appropriateto use prices paid for milk outside New Zealand due tothe significant variances in cost structures between theNew Zealand dairy industry and that in other countriesand the relatively small proportion of New Zealandmilk that is sold fresh in New Zealand. Accordingly themilk price is assessed by a calculation known as theCommodity Milk Price (CMP). This is based upon thecost of milk determined by Duff & Phelps as part oftheir Fair Value Share assessment. The CMP is the pricea hypothetical efficient competitor could afford to payfor milk and is assessed as:Annual revenue that could reasonably be achievedfrom the sale of a balanced portfolio of dairycommodity products, derived from milk, of thequality and quantity supplied to Fonterra inNew Zealand.Less:The assessed operating costs and capital costs(including a fair return on capital) incurred inderiving commodity milk revenue.HISTORICAL CMPAs discussed above the CMP is based upon the cost ofmilk applied by Duff & Phelps in assessing the earningsof the Ingredients business for the purpose of theFair Value Share. The Historical CMP simply takes thatforward looking model used for the valuation andapplies the actual milk volumes, base commodity pricesand exchange rates achieved by Fonterra during theseason (hence it is the Historical CMP).FONTERRA CMPThe Fonterra CMP is calculated in a similar mannerto the Historical CMP. However rather than applyingthe efficient competitor sales mix and operating costsas applied in the Historical CMP, the Fonterra CMPuses Fonterra’s commoditised product mix and costs.It is based upon the actual volume of milksolidsreceived during the year however it assumes thatonly commodity products are manufactured. All milkvolumes actually applied by Fonterra to manufacturenon-commodity and value add products are assumedto be applied to the manufacture of the most similarcommodity products and are assumed to be sold ata base commodity product price. Accordingly theFonterra CMP excludes any returns earned by Fonterrafrom value add activities.ADDITIONAL PERFORMANCE MEASURESThe performance measurements discussed above areconsistent with those provided in previous years.Discussed below are additional performance measuresthat Fonterra will report on going forward.SEPARATION OF MILK COMPONENT AND VALUE ADDCOMPONENT OF PAYOUTOver the last year management has been reviewingFonterra’s performance measures and in particular thecalculation of the price of raw milk. The existing HistoricalCMP and Fonterra CMP models were examined alongwith alternative approaches. The analysis identified thefollowing key issues:There should ideally be one methodology forcalculating the milk price for all purposes includingthe Fair Value Share, management performancemeasurement and statutory financial reporting.The consistency between the milk price determinedby the independent valuer for the Fair ValueShare and the milk price for financial reportingis particularly important to ensure comparabilitybetween the value add earnings inherent in the FairValue Share and those distributed by way of payout.To the extent there is a significant disconnect, issuesaround adequate return on investment will arise.Based upon the work undertaken, the existing CMPmodel (or a derivative of the model) is still consideredthe most appropriate basis for determining the raw milkprice to be used for all purposes. Accordingly, under thenew approach the Valuer will assess the CMP as theycurrently do. However, in determining the optimallong term product mix the Valuer will apply Fonterra’sforecast base commodity product prices rather than theValuer’s modelled mean-reverting forecast prices.

PERFORMANCE MEASURES – continuedHaving assessed this optimal product mix the Valuerwill continue to deduct the hypothetical efficientcompetitors costs (including a capital charge on theoptimal asset base) as it currently does. The residual willbe the amount available to pay for raw milk.To avoid confusion, the new basis of calculation will beknown as the “Milk Price Methodology”. At year endrather than having a Historical CMP we will simply havea Historical Milk Price.At year end suppliers have traditionally been providedwith an analysis of the value add, Historical CMP andFonterra CMP components of the payout. The Boardhas determined that going forward all forecast payoutannouncements will also identify separately the milkprice component and value add component of theseason’s payout.FONTERRA BRANDS SEGMENTAL PROFORMASTATEMENT OF FINANCIAL POSITIONAS AT 31 MAYNZD Millions 2006 2005Accounts Receivable 560 448Inventory 772 699Other Current Assets 75 455Total Current Assets 1,407 1,602Investments 271 240Intangibles 1,975 1,340Fixed Assets 552 515Total Non-Current Assets 2,798 2,095Trade Creditors and Payables (707) (697)Total Funds Employed 3,498 3,000Total Interest Bearing Debt 1,210 966Equity 2,288 2,034Total Capital Employed 3,498 3,000RONA (1) 6.8% 7.2%Total Return on Enterprise Value (2) 9.3% 7.2%Normalised Return on Enterprise Value (3) 9.3% 4.6%Identifying a separate milk price component of payoutwill provide a clear signal to shareholders regardingthe value of milk at the farm gate which will assistin making on-farm decisions. The increased visibilityaround the value add returns will enable shareholdersto better monitor the performance of Fonterra’s valueadd operations.While Fonterra’s total payout will remain unchanged,the two components of payout will be paid separately.The milk price component of payout will continue tobe paid pursuant to an advance rate schedule whilethe value add component will be paid twice a year inFebruary and August.FONTERRA BRANDSAs discussed in the Chairman’s Review, detailed belowis additional segmental information regarding theperformance of the Fonterra Brands business.FONTERRA BRANDS SEGMENTAL OPERATING RESULTSYEAR ENDED 31 MAYNZD Millions 2006 2005Sales to customers outside the group 3,790 3,775Inter-segmental sales 71 59Total Revenue 3,861 3,834Total cost of sales 2,608 2,544Gross margin 1,253 1,290Operating expenses 939 832Segment operating result includingnon-recurring items 314 458Non-recurring income/(expenses) 26 193Segment operating surplus 288 265The preceding table illustrates that Fonterra Brandssegment operating surplus for 2005/06 was ahead ofthe result achieved for 2004/05. Discussion of FonterraBrands operating result is included in the Chairman’sReview on page 15 and the commentary from FonterraBrands’ Managing Director on page 24.(1) Segment Operating Surplus after tax excluding Amortisation andnon-recurring items as a percentage of Average Net Assets (TotalFunds Employed)(2) Increase in Enterprise Value (as determined by independent valuer)plus Free Cash Flow, excluding interest, as a percentage of OpeningEnterprise Value(3) Total Return on Enterprise Value as defined above less the increasein value of the National Foods Investment in the 2004/05 seasonThe key change in Fonterra Brands proforma statementof financial position relates to divestments, acquisitionsand the receipt of proceeds from 2004/05 sale of itsinvestment in National Foods. During the 2005/06season Fonterra Brands acquired the NZDF, Kapiti andPastryhouse businesses and divested certain operationsof its Mainland business. These aquisitions were fundedby the proceeds received from the sale of FonterraBrands 19 per cent investment in National Foods,(included in other current assets as at 31 May 2005)and interest bearing debt.As the table above shows Fonterra Brands’ Return onaverage Net Assets (RONA) for the 2005/06 year hasdecreased slightly from the return for the 2004/05year, primarily as a result of the substantial acquisitionsundertaken in the 2005/06 season. These acquisitionsare expected to improve Fonterra Brands’ return infuture years.However the Total Return on Enterprise Value whichincludes the increase in Fonterra Brands’ value (asassessed by the Valuer) improved between the 2004/05and 2005/06 years. Excluding the increase in value ofthe National Foods investment from the 2004/05 TotalReturn on Enterprise Value calculation shows an evengreater improvement on a normalised basis.FONTERRA ANNUAL REPORT 200637

Governance38Fonterra is New Zealand’s largest co-operative as wellas being a significant company in the context of theNew Zealand economy and the global dairy industry.The Company has approximately 11,000 New Zealanddairy farmer suppliers who are shareholders, andhas issued Capital Notes which are listed on theNew Zealand Debt Market of New Zealand ExchangeLimited (“NZX”).The Board and Management are committed to asystem of corporate governance that meets theunique requirements of Fonterra’s shareholders andbest practice appropriate to a co-operative and, asNew Zealand’s biggest company, also takes into accountrecommendations by the New Zealand SecuritiesCommission and NZX.The Board of FonterraCOMPOSITIONThe composition of the Fonterra Board is a significantelement in the governance of the co-operative. TheBoard is comprised of up to 13 directors. Under theFonterra Constitution, nine of the directors are electedfrom the shareholder base (“Elected Directors”), andfour are appointed by the Board and approved byshareholders at the Annual Meeting (“AppointedDirectors”). There are no executive directors.During the financial year two of the Appointed Directorsretired. They were replaced by Mr John Ballard andMr Ralph Waters.Appointed Directors have a significant role to playin providing a balance of independence, skills andexperience to the Board, complementing the deepunderstanding of the dairy industry provided by theElected Directors. Consequently, appointments are onlymade after a process involving an extensive searchbased on detailed criteria. Appointed Directors areappointed for a term specified by the Board, subject toshareholder approval. Elected Directors are appointedfor a three-year period through a postal ballot.During the year the director election process for ElectedDirectors was reviewed and the timing of electionswas changed so that at the time of the elections themost up-to-date financial results are available. Thischange also ensures that the Director elections coincidewith the Annual Meeting. The structure of the Boardwill continue to be reviewed in consultation withshareholders to ensure that it best meets the demandsof the co-operative.“INDEPENDENT DIRECTORS”The Fonterra Constitution specifies the compositionof the Board and does not distinguish between“independent” and “non-independent” directors. TheAppointed Directors are “independent” and free ofany supplier relationship with the Company. However,the co-operative nature of the Company means thatElected Directors, who must be shareholders, will havea supplier relationship with the Company. While noneof the Elected Directors are material shareholders, theyare not classified as “independent” under the NZXdefinitions because their supplier relationship withFonterra is material to their business activity.The Board considers that the mix of Elected andAppointed Directors, as mandated in the Constitution,provides an appropriate balance so that the Boardoperates in the best interests of the Co-operative’sshareholders.All Directors comply with the legislative requirements fordisclosing interests, and Fonterra has a Securities Codeof Conduct, which guides and regulates both Directorsand Management in their personal dealings withFonterra securities and those of related companies.BOARD ROLE & CHARTERThe Board has the responsibility to direct and supervisethe management of the business and affairs of theCo-operative. Key activities in discharging thisresponsibility are: determination of payout; setting ofthe Fair Value Share price after determination of theFair Value range by the Valuer; review and approval ofthe budget and corporate plan; the appointment andreview of the performance of the CEO; engagement

in the strategic planning process and in the setting ofthe strategy for the Company and the major businessunits; approval of significant acquisitions and disposalsoutside management’s delegated authorities; oversightof the Board Committees and the areas covered byeach of those Committees.The Board has issued a written delegation of authorityto Management, which it regularly reviews, and hasreporting and review processes in place to monitorperformance of Management in the conduct of theoperations of the Company.The Board has adopted a Charter, which defines itsmanner of operation and relationship with Management.The Board Charter is posted on the Fonterra website,www.fonterra.com. A process exists to regularly reviewthe Charter to ensure that it reflects the role of theBoard as it develops.required to have an accounting or financial background.The Chairman of the Committee (who must not be theBoard Chairman) is Graeme Hawkins. Both he andRoger France, who also sits on the Committee, haveaccounting and financial backgrounds and both areAppointed Directors.The AFRC has significant roles in (i) assisting theBoard to ensure the quality and integrity of financialreports, (ii) reviewing the risk and assurance processes,and (iii) overseeing Treasury operations and policies.Principal activities of the AFRC include establishingand reviewing internal audit and global assuranceprocesses; reviewing the internal control framework,significant risks, exposures and mitigation strategies;reviewing financial reports to shareholders and offeringdocuments; reviewing and overseeing financial riskstrategies, hedging policies and other treasury functions;ensuring the timeliness and balance of disclosureson the affairs of the Company; and overseeing theappointment of external auditors and the externalaudit process.Board MeetingsThe Board meets formally at least eight times each yearto conduct business. The business at those meetingsincludes consideration of the ongoing operations ofthe Fonterra business, long term and annual plansand budgets, and major strategic proposals andgovernance matters (including statutory responsibilitiesand continuous disclosure issues).The Board also holds a number of workshops each yearto consider matters of significance such as the FonterraStrategy and Fonterra’s capital structure. In addition,Directors visit significant global markets to enhancetheir understanding of the business of the Companyand its strategies. These market visits include briefingsfrom management and meetings with joint venturepartners, major customers and local political leaders.Board CommitteesThe Board uses Committees or Working Groups tofacilitate more effective and efficient decision-making.Committees and Working Groups have written terms ofreference, and report on their activities to the Board.Committees are made up of Directors only, althoughother people may be present as observers, whereasWorking Groups may have employees, shareholders, orothers as members in addition to Directors.The Terms of Reference and membership of eachCommittee or Working Group are reviewed annuallyby the Board. There are currently five permanentCommittees of the Board and one Working Group, asidentified below. Other committees may be formed asrequired – for example, in the event of major mergerand acquisition activity.AUDIT, FINANCE & RISK COMMITTEE (“AFRC”)The AFRC is comprised of up to five Directors, and mustinclude an Appointed Director and the Chairman of theCompany. At least one member of the Committee isAPPOINTMENTS REMUNERATION AND DEVELOPMENTCOMMITTEE (“ARD COMMITTEE”)The ARD Committee is comprised of up to fiveDirectors, two of whom are Appointed Directors.The Chairman of the Committee is the Chairman ofthe Board, Henry van der Heyden. Principal activitiesof the ARD Committee include obtaining assurancethat the Company’s human resources policies andpractices support achievement of the Company’s goals;overseeing appointments of the CEO, roles reporting tothe CEO, and key professional legal and public relationsadvisors; reviewing remuneration strategies and plans;and overseeing the development of key employees.The Committee is also developing processes for theevaluation of individual Directors and the Board asa whole.SHAREHOLDER RELATIONS COMMITTEE (“SRC”)The SRC is comprised of four Directors. Up to fourShareholder Councillors also attend SRC meetings asobservers. The Chairman of the Committee is GregGent. Principal activities of the SRC include monitoringthe interface between Fonterra and shareholders;reviewing the delivery of services to shareholders andthe terms and conditions of supply and; acting as anintermediary for shareholders with complaints againstthe Company and liaising with the Milk Commissionerin relation to complaints that cannot be resolved.The SRC also provides a significant interface with theShareholders’ Council on shareholder / supplier issues.FAIR VALUE SHARE REVIEW COMMITTEE (“FVSCOMMITTEE”)The Fair Value Share Review Committee is comprisedof four directors. The Board Chairman and CEOmay also attend ex-officio. The Chairmen of theShareholders’ Council and the Performance Committeeof the Shareholders’ Council are entitled to attendas observers.FONTERRA ANNUAL REPORT 200639

40The Chairman of the FVS Committee is Roger France.The principal activity of the FVS Committee is providingadvice to the Board on the setting of the Fair Valuefrom within the Fair Value range determined bythe Valuer, which the Board is required to do underthe Constitution. In order to fulfil this role the FVS Committeereviews information provided by managementto the Valuer, and interacts with the Valuer to theextent required to enable the Committee to obtain ahigh level understanding of the process used in thedetermination of the Fair Value Range.EXTERNAL RELATIONS COMMITTEEThe External Relations Committee is comprised ofthree Directors. The Chairman of the Committee isthe Chairman of the Board, Henry van der Heyden.The purpose of the Committee is to assist the Boardin building relationships with political contacts andinternational trade policy contacts as well as withselected joint venture partners.MILK PRICING WORKING GROUP (“MPWG”)The MPWG is comprised of four Directors, up to twoexternal appointees, and a Management representative,being the Director Fonterra Milk Supply. The currentChairman of the Working Group is Mark Townshend.The purpose of the MPWG is to assist the Board withthe development of milk pricing signals in co-ordinationwith the development of the capital structure.CANDIDATE ASSESSMENT PANEL AND GOVERNANCEDEVELOPMENT COMMITTEEIn addition to the Board Committees, the Boardand Shareholders’ Council agreed to establishthe Candidate Assessment Panel and GovernanceDevelopment Committee as joint initiatives to aid thedevelopment and assessment of future candidatesfor the Elected Director positions on the Board andprovide shareholders better information on the electoralprocess. The Panel is independently chaired by JohnPalmer and has two Directors and two Shareholders’Councillors as members. The Committee comprises twoBoard members and three Shareholders’ Councillors.Remuneration of DirectorsThe Directors’ Remuneration Committee (“DRC”), isindependent of the Board and the Shareholders’ Council,being separately elected by Fonterra Shareholders.Under the constitution, the DRC considers andrecommends for shareholder approval, the form andamount of remuneration for Elected Directors.The Board is responsible for setting remunerationof Appointed Directors, but generally follows theremuneration levels approved for Elected Directors.The Board is authorised to approve special remunerationfor a Director who is engaged to carry out work otherthan as a Director of Fonterra or where a Director iscalled upon to exercise special skills for the benefit ofthe Company.Shareholder Relations andStakeholder InterestsThe Board continues to promote the co-operativenature of the Company and reflects this in its dealingswith its supplying shareholders. This year has seen acontinuation of the Board’s programmes for fosteringand enhancing relationships with its supplyingshareholders.The Board and management have maintained regulardirect contact through a significant number of meetingsheld throughout New Zealand. These meetings havealso been supported by the Shareholders’ Council, FieldRepresentatives and the Fonterra Farmer Network.They provide an important forum for shareholders toengage with Directors and management and gain abetter understanding of the Fonterra business.The Fonterra Milk Supply Service Centre alsocontinues to provide an important service throughwhich shareholders can contact the Company to makecomments, or to raise questions or complaints, andensures that shareholders’ concerns are addressed.Fonterra also maintains the Fencepost website whichprovides a wide range of information and otherservices to shareholders, as well as a corporate Fonterrawebsite (www.fonterra.com) which contains generalinformation on the Company and is accessible to thegeneral public.Information DisclosureThe Board is committed to providing information to itsshareholders and other investors in a timely manner.The Board regularly reviews the expected payoutto suppliers, and communicates its best estimate.The Board also uses shareholder meetings to updateshareholders on the Company’s performance, andstrategic issues.Shareholders also receive information relating to the FairValue Share, annual and half-year financial results, andelections of Directors and Shareholders’ Councillors. Asa listed issuer of debt securities, Fonterra also keepsthe market informed of material information throughannouncements to the NZX.Shareholders’ CouncilThe Board has a significant and unique relationship withthe Shareholders’ Council, which is established underthe Constitution. The Council is independent of theBoard and comprises 46 shareholders, representing 25different wards, who are elected by the shareholders.The Council’s functions include reviewing the Board’sstatement of intentions for the performance andoperations of the Company, and commenting onreports from the Board on the Company. The Boardand Council share common interests in shareholderissues, which are generally addressed through the SRC,MPWG, or similar mechanisms.

The Board receives regular feedback from the Council,both at its regular meetings, and through regularmeetings between the Chairs of the Board and theCouncil and the Chairs of their respective Committees.To assist the working relationship, the Board andCouncil have approved a written protocol detailing theworking interface between the Board, executive andShareholders’ Council.Ethics Framework andStakeholder InterestsFonterra’s Board is committed to the ethical conductof the Company’s business around the world. TheCompany has published The Way We Work – Fonterra’sCode of Business Conduct, which reinforces thiscommitment. The Way We Work is based on Fonterra’sValues and Principles.The Way We Work covers matters such as:Moral courage and leadershipDignity and respectWork environment and hours of workFair treatment and diversityHarassmentHealth and safetyAlcohol abuseChild labourPrivacyProduct safety, sales, marketing and advertisingChildren as customersInfant formulaBusiness records, recording information, protectingFonterra’s assets, name and confidentialinformationExternal business practices, relationships withvendors, conflicts of interest, inside informationand securities trading, competition and antitrust,anti-corruption laws, competitive information,gifts and entertainment, external relations andcommunicationsLegislation, environment, agricultural raw materials,ethical standards in research, individual politicalactivities, corporate political activities, export controland compliance.The Way We Work also provides very clear policiesgoverning the relationships that Fonterra has withsignificant stakeholders such as employees, customers,shareholders, business partners and suppliers, andcommunities. The Code has a global reach and is notlimited to any particular country or community. TheWay We Work is not a substitute for the corporatepolicies of Fonterra. Rather, it refers employees to therelevant policies and encourages communication ofcompliance with those policies.Within Management, the Ethics programme is theresponsibility of the Fonterra Leadership Team andis administered by the Director of Human Resources,who reports to the ARD Committee in relation toethical matters. The Director of Human Resourcesreports at least annually on Ethics issues and is assistedin administering the Ethics programme by an EthicsCommittee comprised of members of managementincluding the General Counsel, the Director of GlobalAssurance and members of offshore businesses andmajor business units of the Company.During the reporting period Fonterra did notencounter any material breaches of policy or its Codeof Conduct.Audit Independence PolicyThe Board, primarily through the AFRC, ensures thatthe external Auditors appointed by the Company areindependent. Fonterra operates a rigorous selectionprocess to appoint its auditors and has a policy ofrotating its lead external audit partner in accordancewith best practice. AFRC approval is required for anyactivities the Auditor undertakes for the Companyother than those specified in their engagement asAuditor. In general, the AFRC will not approve theAuditor performing any potentially conflicting tasksunless exceptional circumstances exist and appropriatesafeguards to ensure independence are put in place.Governance StandardsThe Board recognises the need to continually reviewits Governance Standards to ensure they are in linewith developing best practice. In so doing, the Boardconsiders material published by a range of partiesin New Zealand and internationally. The objective ofthe Board is to continue to structure and developthe governance systems and disclosures to providemeaningful and effective governance that is appropriatein the particular context of Fonterra as a majorco-operative based in New Zealand.FONTERRA ANNUAL REPORT 200641

The Board of Fonterra42HENRY VAN DER HEYDENBE (HONS) (LINCOLN)Henry van der Heyden became Chairman of FonterraCo-operative Group in September 2002 and is afounding Director of the co-operative.He has contributed to industry governance for 14years, as both a director and chairman, and played aconsiderable role in the industry rationalisation thatled to Fonterra’s establishment. He pioneered theestablishment of shareholder committees having a rolein co-operative governance, a move which led to theestablishment of Fonterra’s Shareholders’ Council.Mr van der Heyden currently serves on Fonterra’sAudit, Finance and Risk Committee, and is Chairmanof the Appointments, Remuneration and DevelopmentCommittee and External Relations Group. He is alsoa director of the NZX, Innovation Waikato Ltd, KingSt Advertising and Independent Egg Producers, andserves on Waikato University’s School of ManagementAdvisory Board. He is a Trustee of Asia:New Zealand.He holds a Bachelor of Agricultural Engineeringwith Honours from Lincoln University and began hisfarming career sharemilking in the Putaruru/Tokoroaarea, where he purchased a farm in 1985. Mr van derHeyden owns three dairy farms in partnership withhis wife Jocelyn and has an equity partnership in twoother properties. The van der Heydens have two sonsand two daughters.He has nine years experience as a member of theTechnology NZ Reference Group analysing researchand development projects, and has served on theAnimal Remedies and Pesticides Boards. He is adirector of Embryo Technologies Ltd and HawkesBay Dairies.Mr Bailey farms 205 hectares near Feilding and hasother dairy farming interests in the lower NorthIsland. He holds a Bachelor of Agricultural Economicsfrom Massey University and is a member of theInstitute of Directors.JOHN BALLARDMBAJohn Ballard was appointed as an independentdirector in May 2006, effective from July 2006.Mr Ballard has a Master of Business Administrationfrom the Columbia University Graduate School ofBusiness, majoring in Marketing and InternationalBusiness. He has served on the boards of severalprominent listed companies including WoolworthsLtd, CSR Ltd, Rinker Ltd, and Email Ltd. He is aformer Chairman of Wattyl Ltd. and is a Trustee ofthe Sydney Opera House.In addition to his extensive governance experience,Mr Ballard has a strong track record in consumer goods,marketing brands and distribution management as aresult of leadership roles in international companiesincluding Coca-Cola Amatil Ltd (Australia), UnitedBiscuits Asia Ltd, and Southcorp, where he was CEOprior to the company’s acquisition by Fosters Ltd.His farming interests extend to a property producingmilk-fed veal in New South Wales. Mr Ballard ismarried with two children.MALCOLM BAILEYB Ag Econ MASSEYMalcolm Bailey was elected to the Fonterra Boardof Directors in May 2004. He is a member of theShareholder Relations Committee and the ExternalRelations Committee. He is Fonterra’s representativeon the International Food and Agriculture TradePolicy Council.Mr Bailey is a former National President of FederatedFarmers, a former Fonterra Shareholders’ Councillor,and has been a Special Agricultural Trade Envoyfor the New Zealand Governmentand an ExternalMonetary Policy Adviser to the Reserve Bank.

HARRY BAYLISSB AGR SC (MASSEY)ROGER FRANCEBCOM, CAHarry Bayliss has been a dairy company directorfor 17 years. He has served as Chairman of theNew Zealand Dairy Research Institute and as adirector of Bonlac Foods, ViaLactia Biosciences,Dairy Meats, and LIC. He is currently a member ofFonterra’s Audit, Finance and Risk Committee andFair Value Share Committee.His farming interests have centred on coastal Taranakifor more than 20 years, starting with the purchase ofa dairy farm in Otakeho in 1981 after five years ofsharemilking. Expansion of this holding has continuedever since and he now also has farming interests inSouth Waikato. He has a Bachelor of AgriculturalScience from Massey University. Mr Bayliss retired asa director at the end of the financial year.GREG GENTGreg Gent has served the dairy industry as adirector since 1993. He is Chairman of Fonterra’sShareholder Relations Committee and serves onthe Appointments, Remuneration and DevelopmentCommittee, the Trade Strategy Committee and theMilk Price Working Group.He is also a director of FMG Insurance. He began hiscareer working for the Bank of New Zealand in 1972.After five years he made the move into dairying, with700 cows on his farm at Ruawai, Northland.In 2002 Mr Gent completed the AdvancedManagement Programme at INSEAD, France.Roger France joined the Board of Fonterra in January2003. The first 11 years of his professional careerwere with a PricewaterhouseCoopers predecessorfirm, and included five years in audit supervisory andmanagement positions in Sydney and London.He spent 10 years as Chief Financial Officer with twoNew Zealand publicly listed companies, Allied FarmersCo-operative Limited and Freightways HoldingsLimited, before returning to what was then Coopers& Lybrand as a partner in the Corporate Financedivision, subsequently serving as the ManagingPartner in Auckland.Following the merger with Price Waterhouse, he sat onthe Management Board of PricewaterhouseCoopersand led its Corporate Value Consulting practice in theAsia Pacific region for three years before retiring fromthe firm in June 2001.He joined Air New Zealand’s Board in October 2001,acting as Executive Director until February 2002and is currently the airline’s Deputy Chairman andChairman of its Audit Committee.Mr France has been Chairman of the private investmentcompany Tappenden Holdings since 1997, and is amember of the University of Auckland Council.He serves on Fonterra’s Audit, Finance and RiskCommittee and is Chairman of the Fair ValueShare Committee.FONTERRA ANNUAL REPORT 200643

The Board of Fonterra – continuedGRAEME HAWKINSBSC, BCOM, ACAEARL RATTRAYB Ag Econ MASSEY44Graeme Hawkins is Chairman of Watercare ServicesLtd and a director of a number of other companiesincluding Ballance Agri-Nutrients Co-operative Ltd,Horizon Energy and Cavalier Corporation Ltd. Heis a former director of Bay Milk Products Ltd andNorthland Co-operative Dairy Company Ltd.His business experience includes 14 years with theFletcher Group in a variety of strategic planning andfinancial roles, including an 18 month secondment tothe Prime Minister’s Advisory Group. He then workedfor Dominion Breweries for eight years, becomingCEO in 1987. He has been a professional director forthe past 13 years.Mr Hawkins has Bachelor of Science and Commercedegrees and is an Associate Chartered Accountant.He is Chairman of Fonterra’s Audit, Finance andRisk Committee and serves on the Appointments,Remuneration and Development Committee and theFair Value Share Committee.Earl Rattray has been a dairy company director for11 years. He is Chairman of the Dairy CompaniesAssociation of New Zealand and currently serves onFonterra’s Audit, Finance and Risk Committee and itsExternal Relations Committee.Mr Rattray farms 180 hectares in partnership withhis wife Joanne at Honikiwi, near Otorohanga, andhas an interest in two other farming properties. Priorto dairy farming, he worked as an economist forthe New Zealand Meat and Wool Board’s EconomicService in Wellington. He holds a Bachelor’s degreein Agricultural Economics and is a member of theInstitute of Directors and the Institute of PrimaryIndustry Management.MARK TOWNSHENDSTUART NATTRASSB AG SC (HONS) (LINCOLN)Stuart Nattrass was elected to the Fonterra Boardof Directors in June 2003. He is a member of theAudit, Finance and Risk Committee, Appointments,Remuneration and Development Committee.Mr Nattrass was involved in international financialmarkets, principally foreign exchange riskmanagement, for 16 years. He was initially employedat the National Bank in Wellington and left theindustry having held the position of Global Head ofForeign Exchange Risk for Westpac, based in Sydney.He has been involved in farming all his life, and hisinterests now include ownership of a 420 hectarepastoral property near Geraldine. He also has ashare in a 1,200 cow, spray-irrigated dairy farmnear Ashburton.Mr Nattrass has a Bachelor of Agricultural Sciencewith Honours from Lincoln University.Mark Townshend has been a Director of Fonterrasince its formation. He is Chairman of the Milk PricingWorking Group and serves on the Appointments,Remuneration and Development Committee. Heis the chairman of eight farming companies and adirector of Liberty Genetics Ltd.Mr Townshend has been farming for more than 30years and is involved in four dairy farms in each ofthe North and South Islands. He also has farminginterests in both North and South America.Mr Townshend and wife Diane have four adult,tertiary-educated children who are all connectedwith agriculture. In 1997 the Townshends were theinaugural national winners of the FMG AC CameronExcellence in Farming Award.

JIM VAN DER POELJOHN WILSONB AG SC (MASSEY)Jim van der Poel has been a dairy company directorsince 1999 and was elected to the Fonterra Boardin 2002.He presently serves on the Audit, Finance and RiskCommittee, the Shareholder Relations Committeeand the Milk Price Working Group. He is Chairman ofDexcel and a director and chairman of a number ofprivate companies in which he is a shareholder.He and his family live and farm at Ohaupo in theWaikato but also have farming interests in theSouth Island. Mr van der Poel has won a number offarming awards including Sharemilker of the Year,the A.C. Cameron Award, the Dairy Exporter PrimaryPerformer Award and a 2002 Nuffield Scholarship tostudy the capital structures of co-operatives.John Wilson was elected to the Fonterra Boardof Directors in June 2003. He is currently servingon the Shareholder Relations Committee, the MilkPricing Working Group and the Fair Value ShareCommittee.He was the first Chairman of the Fonterra Shareholders’Council and is the chairman of SAITL.Mr Wilson is also a member of the Institute of Directorsand holds a certificate in Company Direction.Mr Wilson was awarded a Nuffield Scholarship in2000. In 2003 he was selected for the FonterraAdvanced Development Programme.He lives near Te Awamutu with his wife Belindaand their four children, and has built a dairyfarming business that includes their farm inTe Awamutu and part ownership of farms inGeraldine, South Canterbury.Mr Wilson has a Bachelor of Agricultural Sciencefrom Massey University.45RALPH WATERSCP ENG, FIE AUST, M BUSRalph Waters was appointed to the Board as anindependent director in July 2006.Mr Waters retired as Chief Executive of FletcherBuilding in August 2006, having doubled its revenueand increased its share price more than four foldduring his stewardship.Before joining Fletcher Building, Mr Waters wasManaging Director of the Australian publicly listedcompany Email Limited, after having previously heldmanagement positions in the organisation. He hasalso held a number of engineering and managerialpositions. He will continue as a director of FletcherBuilding and is also a director of Fisher & PaykelAppliances.FONTERRA ANNUAL REPORT 2006

Fonterra Leadership Team46ANDREW FERRIERChief Executive Officer– Bachelor of Business Administration from theUniversity of New Brunswick– Master of Business Administration fromConcordia University– 21 years experience at senior executive level– 20 years experience in international agribusinessboth in commodities and consumer products– Heads Fonterra’s $13 billion business. The world’sfifth largest dairy company with $13 billion inassets. Is implementing a “people, lean and grow”strategy to drive growth through the talent ofFonterra’s international workforce, an effective,efficient cost structure, and investments which willincrease Fonterra’s revenues, market share andlong-term returns to shareholders– Favourite Fonterra Brand: Mainland CheddarMaster’s Vintage Cheddar– “Dairy is for life!”JOHN SHASKEYManaging Director Fonterra Ingredients– 30 years experience in the dairy industry– 25 years experience in international dairy markets– 15 years experience in senior management– Led the teams that delivered the merger benefitspromised to Fonterra shareholders on the creationof Fonterra– Led Programme Jedi, the programme of workthat designed and implemented the integratedbusiness model for Fonterra Ingredients, followingthe formation of Fonterra– Led the global sales team, which achieved anine per cent increase in sales volumes this year,including a record of over 300,000 MT in onemonth, to deliver $9.2 billion in revenue– Has restructured Fonterra’s Ingredients businessto provide increased focus on value addopportunities that will lead to an increasedcontribution to Fonterra’s performance from theIngredients business– Favourite Fonterra Brand: Tip Top – “Dairy is the life blood of New Zealand’s economyand prosperity, today and into the future.”SANJAY KHOSLAManaging Director Fonterra Brands– Bachelor of Electrical Engineering (Hons) IndianInstitute of Technology– Harvard University’s Advanced ManagementProgramme– Joined Fonterra (August 2004) after 27 years withUnilever in Europe and India - most recently asChairman of Unilever Global Beverages CategoryBoard based in Holland– Is implementing Fonterra Brands Winning ThroughBrands! strategy which has seen the businessexceed sales and profit targets this year– Favourite Fonterra Brand: All Power Brands– “Dairy is Life.”GUY COWANChief Financial Officer– Bachelor of Engineering (Hons), University ofSussex– Qualified Chartered Accountant (UK), CertifiedPublic Accountant (US)– 34 years experience in international commercialand financial roles– 23 years of experience in international oil andgas industry– Led Fonterra’s move to shared services whichdelivered $30 million in cost reductions– Favourite Fonterra Brand: Kapiti Cheese– “Dairy is the essence of life.”BARRY HARRISDirector Fonterra Milk Supply– Bachelor of Agricultural Sciences, Massey University– Master of Natural Resource Economics, StanfordUniversity Management Programme– Prior roles as Chief Executive of GreaterWellington District Council and Environment

FROM LEFT TO RIGHT:ANDREW FERRIER, JOHN SHASKEY, SANJAY KHOSLA, GUY COWAN,JERRY SAVILLE, GRAHAM STUART, BARRY HARRIS, GARY ROMANO,AND GRAEME MCMILLAN.Waikato with emphasis on sustainable agriculture,environmental management and biosecurity.– Key responsibilities include Fonterra’s relationshipwith shareholders, the efficient collection of some14 billion litres of milk and ensuring Fonterra’sgoals in milk growth are achieved in a way thatis profitable for farmers and sustainable for theenvironment– Favourite Fonterra Brand: Tip Top – “Dairy is New Zealand’s future, it will underpin thewealth and wellbeing of our society.”JERRY SAVILLEGroup Director of Human Resources– Master of Arts, Oxford University– Diploma in Industrial Relations– Completed London Business School’s Sloanprogramme with distinction– 30 years experience in human resources, changemanagement, strategic planning and leadershipdevelopment– Professional highlight for the year has beenpreparing Fonterra for future challenges byrestructuring and establishing clear performancemilestones– Favourite Fonterra Brand: Kapiti Cheese– “Dairy is a great natural product.”GARY ROMANODirector Group Manufacturing– Bachelor of Chemical Engineering (Hons),Queensland University– MBA, University of Western Australia– First joined the Dairy Industry in 1997– Previously worked for Alcoa of Australia, TheBoston Consulting Group and Dairy Partnersof America– Focus on supporting the business to create value– Heads team that is responsible for leadingthe drive to achieve world class standards ofproductivity, quality, safety, cost effectiveness,service and environmental performance across allof Fonterra manufacturing sites– Favourite Fonterra Brand: Tip Top – “Dairy is Pride.”GRAHAM STUARTGroup Director Strategy and Growth– Bachelor of Commerce (1st Class Hons),University of Otago– Master of Science, Massachusetts Instituteof Technology– Led almost $1 billion in merger and acquisitionachievements this year including the 43 percent investment in San Lu, the move to 100per cent ownership of Bonlac in Australia, theacquisition of the Anchor , Fresh ‘n Fruity andKapiti brands in New Zealand, the formation ofDMV Fonterra Excipients and the RD1/Landmarkjoint venture– Over 20 years senior management experience,including 15 years in the dairy industry in financeand management roles– Five years in corporate strategy roles– Favourite Fonterra Brand: Mainland – “Dairy is and always should be an integral part ofa healthy diet.”GRAEME MCMILLANGroup Director Corporate Communications– 20 years of communications experience includingsenior international postings in South East Asia– 10 years experience in dairy industry communications– Leads a team responsible for the developmentand implementation of all Fonterra’s shareholder,employee and stakeholder communicationsstrategies both in New Zealand and internationally– Favourite Fonterra Brand: Fresh ‘n Fruity (especially apricot)– “ One day everyone in New Zealand will recognisejust how important dairy is to this country.”FONTERRA ANNUAL REPORT 200647

Financial StatementsFONTERRA CO-OPERATIVE GROUP LIMITEDThe Directors hereby approve the financial statementsfor the year ended 31 May 2006.For and on behalf of the Board of Directors who authorisedthe issue of these financial statements on 24 July 2006.HENRY VAN DER HEYDENGRAEME HAWKINSDirector, 24 July 2006 Director, 24 July 2006THE FINANCIAL STATEMENTS COMPRISE:FONTERRA ANNUAL REPORT 2006Statements of Financial Performance 50Statements of Movements in Equity 51Statements of Financial Position 52Statements of Cash Flows 53Statement of Significant Accounting Policies 54Notes to the Financial Statements 60Auditors’ Report 88Statutory Information 89Contact Information 103

Statement of Financial PerformanceFONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED $M PARENT $MNOTESYEAR ENDED31 MAY 06YEAR ENDED31 MAY 05YEAR ENDED31 MAY 06YEAR ENDED31 MAY 05Operating revenue 1 13,001 12,323 5,027 5,342Payout to suppliers (4,959) (5,329) (4,959) (5,329)Inventory increase 55 384 – –Other costs of goods sold 2 (5,907) (5,217) (35) (13)Total costs of goods sold (10,811) (10,162) (4,994) (5,342)Operating expenses 2 (1,774) (1,648) 219 227Interest expense 2 (364) (269) (321) (247)Other expenses (2,138) (1,917) (102) (20)Operating surplus/(deficit) before taxation 52 244 (69) (20)Taxation (expense)/credit 3 (40) (25) 164 175Net surplus 12 219 95 155Net surplus attributable to:Parent interests – 191 95 155Minority interests 12 28 – –Net surplus 12 219 95 15550THE ACCOMPANYING NOTES FORM PART OF THESE FINANCIAL STATEMENTS

Statements of Movements in EquityFONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED $M PARENT $MNOTESYEAR ENDED31 MAY 06YEAR ENDED31 MAY 05YEAR ENDED31 MAY 06YEAR ENDED31 MAY 05Net surplus attributable to:Parent interests 5a – 191 95 155Minority interests 5c 12 28 – –Foreign currency translation reserve movement:Parent interests 5b 90 (36) – –Minority interests 5c 21 (12) – –Other movements in retained earnings 5a 5 – – –Total recognised revenues and expenses 128 171 95 155Co-operative shares issued 4 473 200 473 200Peak notes issued 4 42 51 42 51Supply redemption rights issued 4 119 244 119 244Total contributions from owners 634 495 634 495Co-operative shares surrendered 4 (238) (404) (238) (404)Peak notes surrendered 4 (30) (74) (30) (74)Supply redemption rights surrendered 4 (172) (57) (172) (57)Total distributions to owners (440) (535) (440) (535)Other movements in minority interests 5c (88) (15) – –51Movements in equity for the year 234 116 289 115Equity at the beginning of the year 4,911 4,795 4,728 4,613Equity at the end of the year 5,145 4,911 5,017 4,728Equity at the end of the year comprises:Parent interests 5,017 4,728 5,017 4,728Minority interests 5c 128 183 – –Equity at the end of the year 5,145 4,911 5,017 4,728THE ACCOMPANYING NOTES FORM PART OF THESE FINANCIAL STATEMENTS

Statement of Financial PositionFONTERRA CO-OPERATIVE GROUP LIMITED AS AT 31 MAY 2006CONSOLIDATED $M PARENT $MNOTESAS AT31 MAY 06AS AT31 MAY 05AS AT31 MAY 06AS AT31 MAY 05Cash balances 137 116 10 1Receivables and prepayments 6 2,558 2,271 6,009 7,057Inventories 7 3,300 3,245 – –Taxation receivables 63 38 239 195Other current assets 30 34 – 1Total current assets 6,088 5,704 6,258 7,254Property, plant and equipment 8 4,366 4,297 63 41Investments 9 484 331 7,839 7,309Intangibles 11 2,101 1,469 – –Deferred taxation 16 7 – 62 81Other non-current assets 34 11 21 –Total non-current assets 6,992 6,108 7,985 7,431Total assets 13,080 11,812 14,243 14,68552Bank overdrafts 115 79 12 8Owing to suppliers 692 982 692 1,015Capital notes 17 576 – 576 –Payables and accruals 12 1,194 983 3,832 4,630Provisions 13 103 88 41 23Current borrowings 14 1,793 1,480 1,710 1,374Taxation payable 40 29 – –Other current liabilities 33 52 27 51Total current liabilities 4,546 3,693 6,890 7,101Provisions 13 50 62 36 53Term borrowings 15 3,263 2,418 2,245 2,090Deferred taxation 16 – 7 – –Capital notes 17 23 483 23 483Other non-current liabilities 53 238 32 230Total non-current liabilities 3,389 3,208 2,336 2,856Total liabilities 7,935 6,901 9,226 9,957Net assets 5,145 4,911 5,017 4,728Co-operative shares 4 3,569 3,334 3,569 3,334Peak notes 4 1,149 1,137 1,149 1,137Supply redemption rights 4 285 338 285 338Retained earnings 5a 170 166 14 (81)Foreign currency translation reserve 5b (156) (247) – –Minority interests 5c 128 183 – –Equity 5,145 4,911 5,017 4,728THE ACCOMPANYING NOTES FORM PART OF THESE FINANCIAL STATEMENTS

Statements of Cash FlowsFONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED $M PARENT $MNOTESYEAR ENDED31 MAY 06YEAR ENDED31 MAY 05YEAR ENDED31 MAY 06YEAR ENDED31 MAY 05Cash flows from operating activitiesCash was provided from:Receipts from customers 12,207 12,044 4,681 5,291Interest received 12 9 32 20Dividends received 35 30 31 –Taxation received 1 5 – 4Cash was applied to:Payments to creditors and employees (6,252) (5,776) (288) (262)Payments for milk supplied (5,813) (5,714) (5,081) (5,180)Taxation paid (80) (108) – –Interest paid (342) (262) (329) (221)Net cash flows from operating activities 18 (232) 228 (954) (348)Cash flows from investing activitiesCash was provided from:Proceeds from disposal of property, plant and equipment 34 59 1 8Proceeds from sale of subsidiaries 19 9 64 – –Proceeds from sale of associates 1 5 – –Proceeds from sale of investments 389 40 – –Net loans from subsidiaries – – 262 –Cash was applied to:Acquisition of property, plant and equipment (515) (620) (40) (27)Acquisition of other intangibles (5) (6) – –Net loans to subsidiaries – – – (131)Purchase of minority interests – (105) – –Acquisition of associates/investments (1) (78) – (8)Acquisition of subsidiaries 19 (540) (5) – –Acquisition of other investments (9) – (6) –Advances secured against inventory (76) – – –Net cash flows from investing activities (713) (646) 217 (158)53Cash flows from financing activitiesCash was provided from:Increase in borrowings 5,638 6,033 5,202 6,236Issue of co-operative shares 145 265 145 265Issue of peak notes 33 24 33 24Repayment of deferred share receivable 1 – 1 –Cash was applied to:Repayment of borrowings (4,790) (5,856) (4,547) (5,958)Repurchase of capital notes (92) (83) (92) (83)Dividends paid to minority interests (23) (17) – –Net cash flows from financing activities 912 366 742 484Net (decrease)/increase in cash held (33) (52) 5 (22)Opening cash balances 37 94 (7) 15Effect of exchange rate changes on cash flows 18 (5) – –Closing cash balances 22 37 (2) (7)Reconciliation of closing cash balances to the statementof financial position:Cash balances 137 116 10 1Bank overdrafts (115) (79) (12) (8)Closing cash balances 22 37 (2) (7)THE ACCOMPANYING NOTES FORM PART OF THESE FINANCIAL STATEMENTS

Statement of Significant Accounting PoliciesFONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006(a) Basis of preparationFonterra Co-operative Group Limited (the “Company” or “Parent” or “Fonterra”) is a co-operative company domiciled inNew Zealand, registered under the Companies Act 1993, the Co-operatives Companies Act 1996, and the Dairy IndustryRestructuring Act 2001. Fonterra is an issuer for the purpose of the Financial Reporting Act 1993 and its financial statementscomply with that Act. The reporting currency used in the preparation of these financial statements is New Zealand dollars.Financial statements for Fonterra and consolidated Group financial statements are presented. The financial statementscomprise statements of the following: financial performance; movements in equity; financial position; cash flows; significantaccounting policies; as well as the notes to these statements contained on pages 60 to 87.The financial statements have been prepared in accordance with generally accepted accounting practice (“GAAP”) inNew Zealand. Where no financial reporting standard or statement of standard accounting practice exists in New Zealand inrelation to a particular issue, the accounting policies and disclosures adopted have been determined having regard to sourcesof Authoritative Support.The financial statements are prepared on the basis of historical cost except that derivative financial instruments that are notdesignated as hedges are stated at market value and investments in subsidiaries are stated at Fonterra’s share of net assets.The cost of certain assets and liabilities is based on their fair value at the date of the formation of the Company.(b) Basis of consolidationThe consolidated financial statements comprise the Company, its subsidiaries (the “Group”) and the Group’s interest inassociates, joint ventures and partnerships. Intra-Group transactions are eliminated in preparing the consolidated financialstatements.54SubsidiariesSubsidiaries are entities that are controlled, either directly or indirectly, by the Parent. Subsidiaries are included in theconsolidated financial statements using the purchase method of consolidation.AssociatesAssociates are entities in which the Parent, either directly or indirectly, has a significant but not controlling interest.The consolidated financial statements include the Group’s share of the net surplus/(deficit) of associates on an equityaccounted basis.Acquisition or disposal during the yearWhere an entity becomes or ceases to be a part of the Group during the year, the results of the entity are included in theconsolidated results from the effective date that the entity became a subsidiary or an associate or until the date it ceased tobe a subsidiary or associate.Goodwill and discount arising on acquisitionFair values are assigned to the identifiable assets and liabilities of subsidiaries and associates of the Group at the date theyare acquired. Where the fair value of the identifiable net assets acquired in the purchase of a subsidiary or an associate is lessthan the purchase price paid, the difference is treated as goodwill and is written off on a straight line basis, over the periodof expected benefit, for up to 20 years following the date of acquisition.Where the fair value of the identifiable net assets acquired in the purchase of a subsidiary or an associate exceeds thepurchase price paid, the difference is treated as discount on acquisition and is applied to reduce the fair value of acquirednon-monetary assets.

Statement of Significant Accounting Policies (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006(c) Foreign currencyExchange differencesShort-term transactions covered by forward exchange contracts are translated at the exchange rates specified in thosecontracts. Other foreign currency transactions are translated to New Zealand currency at the exchange rates ruling at thedates of the transactions.Monetary assets and liabilities in foreign currencies at balance date covered by forward exchange contracts are translatedat the exchange rates specified in those contracts. Monetary assets and liabilities in foreign currencies at balance datenot covered by forward exchange contracts are translated at the exchange rates ruling at that date. Exchange differencesarising on the translation of monetary assets and liabilities in foreign currencies are recognised in the statement of financialperformance except as detailed below.If a foreign currency liability is designated as a hedge of a foreign non-monetary asset (or vice versa), both the asset and theliability are translated at the exchange rate ruling at balance date. Exchange movements are taken to the foreign currencytranslation reserve except where the exchange movements on the liability exceed that of the asset.Translation of the financial statements of foreign operationsThe assets and liabilities of overseas operations, being independent foreign operations, are translated at the exchange ratesruling at balance date. The revenues and expenses of these operations are translated at rates approximating the exchangerates ruling at the dates of the transactions. Exchange differences arising on the translation of the financial statements ofindependent foreign operations are recognised directly in the foreign currency translation reserve.Derivative financial instruments that are designated as hedges of the net investment in independent foreign operations aretranslated at the exchange rates ruling at balance date. Exchange differences arising on the translation of such derivativefinancial instruments are recognised directly in the foreign currency translation reserve to the extent that they offset theexchange differences arising on the translation of the financial statements of the independent foreign operations to whichthe designated hedge relates.55(d) Derivative financial instrumentsThe Group uses derivative financial instruments within predetermined policies and limits in order to manage exposure tofluctuations in foreign currency exchange rates and interest rates.Derivative financial instruments that are designated as hedges of specific foreign exchange, interest rate risks or economicexposures are recognised on the same basis as the underlying hedged items. Where a hedge of an anticipated purchase orsale transaction is undertaken, the exchange difference on the hedging transaction up to the date of the purchase or saletransaction, and any costs associated with the hedge transaction to that date, are deferred and included in the measurementof the purchase or sale transaction. Derivative financial instruments that do not constitute hedges are stated at market valueand any resultant gain or loss is recognised in the statement of financial performance.Where a derivative financial instrument, which is a hedge of an anticipated transaction, is terminated early but the anticipatedtransaction is still expected to occur, the deferred gain or loss that arose prior to termination continues to be deferred and isrecognised as part of the transaction when it occurs. If the transaction is no longer expected to occur, the deferred gain orloss is recognised in the statement of financial performance immediately.The Group does not engage in speculative transactions or hold derivative financial instruments for trading purposes.(e) InvestmentsInvestments other than investments in associates and investments in subsidiaries are stated at cost.In the Parent’s financial statements investments in subsidiaries are stated at Fonterra’s share of net assets and associates arestated at cost. Changes in net assets are recognised in the statement of financial performance.

Statement of Significant Accounting Policies (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006(f) Identifiable intangible assetsBrands and other identifiable intangible assets purchasedThe fair value of brands and other identifiable intangible assets purchased by the Group are recognised where the intangibleasset is controlled through custody or legal rights and could be sold separately from the rest of the business. Where suchintangible assets are regarded as having limited useful lives their value is amortised over those estimated useful lives. Wheresuch intangible assets are regarded as having indefinite useful lives, they are not amortised. However, impairment reviewsare carried out on an annual basis to ensure that such intangible assets are not carried at amounts above their recoverableamounts. Any amortisation or impairment write-downs are recognised in the statement of financial performance.Research and development expenditureAll research expenditure is recognised in the statement of financial performance as incurred. Significant developmentexpenditure is recognised as an asset when it can be demonstrated that the commercial production of the material orproduct, or use of the process, will commence.Development expenditure recognised as an asset is stated at cost and amortised in the statement of financial performanceover the period of expected benefits on a straight-line basis, not exceeding five years. Amortisation begins at the time thatcommercial production or use of the process commences. All other development expenditure is recognised in the statementof financial performance as incurred.56(g) Property, plant and equipmentOwned assetsProperty, plant and equipment is stated at cost and depreciated in accordance with its estimated useful life as outlinedbelow. Cost includes the purchase consideration and those costs directly attributable to bringing the asset to the locationand condition necessary for its intended use. Costs cease to be capitalised when substantially all the activities necessary tobring an asset to the location and condition for its intended use are complete.DepreciationDepreciation is calculated on a straight-line basis to allocate the cost of the asset, less any residual value, over its estimateduseful life. The range of estimated useful lives for each class of property, plant and equipment is as follows:LandBuildingsPlant, vehicles and equipmentIndefinite25 – 50 years3 – 30 yearsFinance leasesAssets under finance leases are recognised as non-current assets in the statement of financial position. Leased assets arerecognised initially at their fair value, or if lower, at the present value of the minimum lease payments. A corresponding liabilityis established and each lease payment allocated between the liability and interest expense. Leased assets are depreciated onthe same basis as equivalent property, plant and equipment.Operating leasesLeases that are not finance leases are classified as operating leases. Operating lease payments are recognised as an expenseon a basis representative of the pattern of benefits.(h) InventoriesInventories are stated at the lower of cost and net realisable value.The cost of dairy product manufactured from milk suppliers in New Zealand is established by estimating an arm’s length costfor raw milk, being the price that could be paid by a hypothetical efficient competitor based on forecasted hedged sellingprices while still making an adequate return on capital. In the case of manufactured inventories and work in progress, costincludes all direct costs plus that portion of the fixed and variable production overhead incurred in putting inventories intotheir present location and condition.

Statement of Significant Accounting Policies (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006(i) ReceivablesReceivables are stated at estimated net realisable value.(j) ImpairmentIf the estimated recoverable amount of an asset is less than its carrying amount, the asset is written down to its estimatedrecoverable amount and an impairment loss is recognised in the statement of financial performance.Where an impairment is subsequently recovered the reinstatement of the previous impairment is recognised through thestatement of financial performance.(k) ProvisionsProvisions are recognised only in those circumstances where the Group has a present obligation as a result of a past event.(l) Revenue recognitionSales revenue includes revenue earned net of returns, discounts and allowances from the sale of inventory items. Salesrevenue is recognised when the significant risks and rewards of ownership of the inventory items have passed to the buyer.(m) Payout to SuppliersPayout to Suppliers is the total available after retentions for payout to supplier shareholders for the milk they supply to theGroup. Premiums for speciality milks, such as winter milk and colostrum, are included within other cost of goods sold.(n) TaxationIncome tax expense is recognised on the operating surplus/(deficit) before taxation, adjusted for permanent differencesbetween taxable and accounting income. Deferred taxation is calculated using the comprehensive basis under the liabilitymethod. This method involves recognising the tax effect of all timing differences between accounting and taxable income asa deferred taxation asset or liability in the statement of financial position. The deferred taxation asset or liability is stated atthe income tax rates prevailing at balance date.57Deferred taxation assets are not recognised unless realisation of the asset is virtually certain.Deferred taxation assets and liabilities are not offset if they arise in different tax jurisdictions.(o) Cash and cash equivalentsFor the purpose of the statement of cash flows, cash comprises cash balances (net of bank overdrafts) and demand deposits.Cash excludes borrowings at call that are not used as part of the Group’s day-to-day cash management.(p) Comparative figuresWhere a change in the presentational format of the financial statements has been made during the period, comparativefigures have been restated accordingly.(q) Changes in accounting policyThere have been no changes in accounting policies. Uniform accounting policies have been applied throughout the Groupand on a basis consistent with the prior period.

Statement of Significant Accounting Policies (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006(r) Adoption of New Zealand Equivalents to International Financial Reporting Standards (“NZ IFRS”)The New Zealand Accounting Standards Review Board (“ASRB”) requires the adoption of NZ IFRS for application to reportingperiods beginning on or after 1 January 2007, with early adoption permitted for reporting periods beginning on or after1 January 2005.Fonterra has elected to apply NZ IFRS for the year ending 31 May 2008. A discussion on how Fonterra is managing thetransition to NZ IFRS is set out below.In preparation for the adoption of NZ IFRS, Fonterra has formed a project team and sought independent external advice. Theproject team is led by senior finance personnel and reports on a regular basis to the Audit, Finance and Risk Committee asub-committee of the Board.An assessment has been performed to determine the differences between the current key accounting policies of Fonterra andcurrent NZ IFRS with material differences set out below. It should not be regarded as a complete list of changes in accountingpolicies that will result from the transition to NZ IFRS, as NZ IFRS and related interpretations may change between the issuedate of these financial statements and the Group’s first balance date reported under NZ IFRS being 31 May 2008. Theregulatory bodies that promulgate IFRS and NZ IFRS have some significant ongoing projects that could affect the differencesset out below and the impact of these variances may be material.58The purpose of the following disclosure is to highlight major impacts the Group expects as a result of transitioning toNZ IFRS. The expected material adjustments arising from differences between the current key accounting policies of Fonterraand NZ IFRS identified to date are outlined in the appropriate paragraphs. Where a reliable estimate of the impact is possibleit has been quantified. Where decisions have not yet been made pending amendments to International Financial ReportingStandards that are currently expected, no impact is considered to be reliably estimable. All adjustments noted below will berecognised through an adjustment to opening retained earnings or another component of equity as appropriate.Reporting of EquityNZ IAS 32: Financial Instruments: Presentation; NZ IFRS-7 Financial Instruments: Disclosures and NZ IAS 39: FinancialInstruments: Recognition and Measurement (“NZ IAS 39”) require, inter alia, Fonterra’s shares to be classified as liabilitiesand carried at fair value with changes in fair value recognised in the statement of financial performance. Application of thesestandards in this manner would clearly produce an anomalous result in the presentation of the Group’s statements of financialposition and financial performance and accordingly the matter has been referred to the International Financial ReportingInterpretations Committee, which in turn referred it to the International Accounting Standards Board (“IASB”). Members ofthe IASB have noted that current NZ IFRS produces an unsatisfactory result in circumstances such as Fonterra’s. The IASB hasissued an exposure draft, which if approved will mean that Fonterra will be able to continue to treat its co-operative shares asequity and without remeasurement to fair value. On the assumption that this exposure draft will ultimately be incorporatedin the applicable NZ IFRS standard at the date of conversion, no adjustment is now expected.Financial Instruments and Hedge AccountingNZ IAS 39 requires all derivative instruments to be recorded at fair value in the statement of financial position with the relatedchanges in fair value being recognised in income unless the instruments qualify for hedge accounting and the strict NZ IAS 39hedging criteria are met. Fonterra currently uses both foreign exchange contracts (options and forwards) to hedge forecastforeign cash flows, and foreign exchange swaps as well as cross currency and interest rate swaps to hedge borrowings.Fonterra intends to adopt hedge accounting for these instruments wherever practicable. Where such instruments qualifyas cash flow hedges the effective portion of changes in fair value of those instruments will be recorded directly in equityuntil the hedged transaction occurs. Where such instruments qualify as fair value hedges, changes in the fair value of theinstruments along with changes in the fair value of the debt will be recorded in the statement of financial performance.

Statement of Significant Accounting Policies (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006If the instruments do not qualify for hedge accounting, the entire change in the fair value of the instrument will be recordedin the statement of financial performance. The estimated impact of adoption is the recognition of all derivative instruments attheir fair value by adjusting total derivative instrument values by $84 million credit and the restatement of debt instrumentsin hedge relationships (representing debt instruments totalling $3,309 million of the total borrowing included in note 20) totheir fair values by increasing the currently recorded value by $168 million. Debt instruments not in hedge relationships willcontinue to be carried at amortised cost. These adjustments will impact on equity with the recognition of a cash flow hedgereserve and an adjustment to opening retained earnings.Income TaxNZ IAS 12: Income Taxes, requires an entity to calculate deferred tax using a balance sheet approach by comparing the taxbases of assets and liabilities to their carrying values in the statement of financial position. Differences between the twovalues are temporary differences on which deferred tax must be recognised (with some limited exceptions). This is differentto current New Zealand accounting standards and is expected to result in a deferred tax liability larger than that currentlyrecorded in the statement of financial position of the Group (primarily as a result of the recognition of deferred tax onbrands and the revaluation of certain tangible assets on formation). Guidance to be issued over the ensuing twelve monthsis expected to clarify the application of the current standard – particularly with respect to the calculation of deferred tax onbrands. Accordingly, Fonterra is not yet able to finalise the opening balance sheet adjustment arising from the applicationof this standard.Business CombinationsNZ IFRS 3: Business Combinations is required to be followed for all business combinations entered into from the date of theopening balance sheet at 1 June 2006. Under this standard all business combinations must be recognised using purchaseaccounting and goodwill will no longer be amortised (instead goodwill will be subject to an annual impairment test withinthe constraints of NZ IAS 36: Impairment of Assets). Because of the available exemptions under NZ IFRS 1: First-time Adoptionof New Zealand Equivalents to International Financial Reporting Standards, Fonterra will have the option not to restate pastbusiness combinations in accordance with these new requirements. Fonterra has yet to decide whether it will restate pastbusiness combinations.59Foreign Currency Translation ReserveNZ IAS 21: The Effects of Changes in Foreign Exchange Rates, requires certain exchange differences arising on translation of aforeign operation to be disclosed as a separate component of equity, in the foreign currency translation reserve. On disposalof a foreign operation the related balance in the cumulative translation reserve is transferred to the statement of financialperformance. An available exemption under NZ IFRS 1 is to deem the cumulative translation reserve to be zero at the date oftransition, and not account for any cumulative differences that arose before the date of transition on subsequent disposal.Fonterra has elected to take this exemption and therefore reset the foreign currency translation reserve to zero by transferringthe balance to opening retained earnings. At 31 May 2006, the balance of the foreign currency translation reserve that willbe transferred to retained earnings amounted to $156 million debit. This has no net impact on opening equity.As Fonterra progresses toward 31 May 2008, the Group will continue to provide users of the financial statements withupdated information about the likely impacts of NZ IFRS on the Group’s earnings, cash flows and financial position.

Notes to the Financial StatementsFONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED $M PARENT $MNOTESYEAR ENDED31 MAY 06YEAR ENDED31 MAY 05YEAR ENDED31 MAY 06YEAR ENDED31 MAY 051. Operating revenueOperating revenue comprises:Sales 12,774 11,952 4,715 5,103Dividends received – 21 31 1Interest received 14 9 279 227Share of total recognised revenue and expensesof associates, after taxation 10 28 22 – –Gain on disposal of investments 19 82 243 – –Gain on disposal of property, plant & equipment 2 18 – 7Other operating revenue 101 58 2 4Total Operating revenue 13,001 12,323 5,027 5,3422. Other cost of goods sold andoperating expenses60Other cost of goods sold and operatingexpenses include:Amortisation of goodwill on consolidation 11 28 14 – –Amortisation of brands 11 1 1 – –Amortisation of other intangible assets 11 4 7 – –Audit fees – Principal auditor 4 4 2 2Other assurance fees – Principal auditor 2 2 1 1Other services – Principal auditor 1 1 – –Bad and doubtful debts:Written off 1 5 – –Increase in provision for doubtful debts 1 – – –Brand impairment 11 2 32 – –Brand impairment reinstatement 11 (4) (15) – –Loss on disposal of investments 19 2 – – –Loss on disposal of property, plant & equipment 3 4 – –Impairment – property, plant & equipment 8 6 – –Depreciation:Buildings 53 50 – 1Plant, vehicles and equipment 409 398 16 19Directors’ remuneration:Fees 1 1 1 1Donation and grants 1 1 – –Operating lease expense 68 61 5 5Research costs 99 78 1 1Capital notes premium on redemption 17 26 – 26 –Restructuring costs 13 57 2 24 –Revaluation of investments in subsidiariesto net asset backing – – (514) (528)Interest Expense includes:Finance leases 14 14 – –Borrowings 350 255 321 247

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED $M PARENT $MNOTESYEAR ENDED31 MAY 06YEAR ENDED31 MAY 05YEAR ENDED31 MAY 06YEAR ENDED31 MAY 053. TaxationOperating surplus/(deficit) before taxation 52 244 (69) (20)Prima facie taxation expense/(credit) at 33% 17 80 (23) (7)Add/(deduct) taxation effect of:Non-deductible/(non-assessable) items:Dividends received – (7) (10) –Capital gains (26) (79) – –Amortisation of intangible assets 11 7 – –Brand impairment – 11 – –Brand impairment reinstatement (1) (5) – –Share of total recognised revenue and expensesof associates, after taxation (9) (7) – –Non-claimable tax credits 6 3 – –Other (9) 19 (6) (18)Losses of overseas subsidiaries not recognised 3 6 – –Revaluation of investments in subsidiaries to net asset backing – – (170) (174)Controlled Foreign Company and ForeignInvestment Fund regime adjustments 13 12 – –Recognition of tax losses 51 (3) 46 12Under/(over) provision prior year (9) 8 (1) 12Less tax on foreign income due to different tax rate (7) (20) – –Taxation expense/(credit) 40 25 (164) (175)61Taxation expense/(credit) comprises:Current taxation 62 71 (183) (184)Deferred taxation 16 (22) (46) 19 940 25 (164) (175)Imputation credits:Opening balance 27 31Tax payments net of refund – (4)Closing balance 27 27The imputation credits are available to the shareholdersof the Parent company:Through the Parent company 27 27Through subsidiaries 11 1138 38Dividend withholding payment credits:The dividend withholding payment credits are available tothe shareholders of the Parent company:Through the Parent company – –Through subsidiaries 1 11 1Tax LossesUnrecognised tax losses available for set off against futureassessable income:Tax losses 329 156Tax saving thereon 103 47The ability to utilise these tax losses depends on the generation of sufficient assessable income in the respectivetax jurisdictions.

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED AND PARENTYEAR ENDED 31 MAY 06 YEAR ENDED 31 MAY 05NUMBER000’SVALUE$MNUMBER000’SVALUE$M4. CapitalCo-operative shares:Opening balance 1,158,434 3,334 1,199,859 3,538End of season issues/(surrenders) prior year – – (146) (1)Issued 6,618 36 4,858 23Surrendered (21,939) (119) (25,907) (122)End of season issues current year 86,879 473 39,729 186End of season surrenders current year (21,907) (119) (59,959) (281)Supply redemption rights price differential – (36) – (9)Closing balance 1,208,085 3,569 1,158,434 3,33462Peak notes:Opening balance 37,888 1,137 38,684 1,160End of season issues/(surrenders) prior year – – (6) –Issued 184 5 136 4Surrendered (1,009) (30) (1,485) (44)End of season issues current year 1,244 37 1,574 47End of season surrenders current year – – (1,015) (30)Closing balance (fully paid) 38,307 1,149 37,888 1,137Supply redemption rights:Opening balance 75,842 338 38,306 151End of season issues/(surrenders) prior year – – (34) –Issued 44 – 289 1Surrendered (2,272) (10) (2,682) (10)End of season issues current year 21,907 119 51,719 243End of season surrenders current year (36,377) (162) (11,756) (47)Closing balance (fully paid) 59,144 285 75,842 338Capital structure changesOn 1 June 2006 the Group transitioned to a new capital structure. The impact of the transition is disclosed in note 26– Subsequent events. The information set out in this note relates to the existing capital structure.Co-operative sharesEach shareholder supplying milk to the Company in a season is required to hold one co-operative share (“share”) for eachkilogram of milksolids obtainable from milk supplied to the Company by that shareholder in that season.Shares are issued and surrendered at fair value. Fair value is determined on an annual basis for each season by the Boardwith the advice of an independent valuer. Fair value for the 2006/07 season has been set by the Board, after receivingDuff & Phelps estimated fair value range, at $5.80 per share (2005/06 season: $5.44 per share).If a shareholder increases supply during a season and they do not hold sufficient shares to cover that increased production,they are required to purchase additional shares. Additional shares are paid for by:• the automatic surrender of supply redemption rights that are held;• cash;• redeeming any excess peak notes held; or• any combination of the above.

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 20064. Capital (continued)The Company also has the option (not exercised to date) to allow additional shares to be paid for by redeeming any capitalnotes held by the shareholder.If a shareholder decreases supply and therefore holds more shares than they are required to hold they must surrender thoseexcess shares. The Company pays the surrender value:• at the option of the shareholder, by the issue of supply redemption rights; and/or• by the issue of capital notes (not offered at 31 May 2006 due to transition, refer note 26).The Company also has the option (not exercised to date) to pay the surrender value by the payment of cash or, in specialcircumstances, by the issue of redeemable preference shares.Share changes required by shareholder increases/decreases in supply for the 2005/06 season are reflected in the capital setout above as at 31 May 2006.Rights attaching to the shares include:• voting rights on a poll or postal ballot of one vote per 1,000 kilograms of milksolids obtainable from milk supplied to theCompany by a dairy farm during the season preceding that in which a poll or postal ballot is taken;• rights to a share in any dividends; and• rights to share in any surplus on liquidation of the Company.Peak notesEach shareholder supplying milk to the Company in a season is required to hold a number of peak notes for the season asdetermined by the Board at the commencement of the season. Peak notes are issued based on each shareholder’s milk supplyprofile during the season. Peak notes are issued at $30 each. Due to transition to the new structure (refer note 26) peak noteswere not physically issued at 31 May 2006 as all peak notes were surrendered as part of the transition.63Peak notes are paid for by:• cash;• redeeming any capital notes held; or• a combination of the above.If a shareholder holds more peak notes than they are required to hold, that shareholder may choose to either:• hold the excess peak notes to use in the future; or• surrender the peak notes by giving notice to the Company. Due to the capital transition (refer note 26) shareholders werenot offered the option at 31 May 2006 to surrender excess peak notes.Where the peak notes are surrendered the Company pays the surrender value:• by the issue of capital notes; or• by the payment of cash.Peak notes have no voting rights, no dividend rights, and no rights to share in any surplus on liquidation of the Company.Supply redemption rightsWhere a shareholder holds more shares than required in a season (based on actual supply of milk by that shareholder) theCompany shall require that shareholder to surrender those excess shares. Supply redemption rights are issued to shareholderswho elect to be issued with them in exchange for shares that are being surrendered. Due to the capital transition all excessshares as at 31 May 2006 were automatically converted to supply redemption rights (refer note 26). A supply redemptionright gives its holder the right to either:• exchange each supply redemption right held for one co-operative share at no cost when further shares are required dueto increased production (irrespective of the value of the supply redemption right); or• at any time surrender the supply redemption right at issue price.Supply redemption rights have no voting rights and no dividend rights. On liquidation each supply redemption right becomesdue to be redeemed for an amount equal to its issue price, which will be paid after all other obligations of the Companyhave been met, but before distribution of any surplus to holders of shares.

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED $M PARENT $MNOTESYEAR ENDED31 MAY 06YEAR ENDED31 MAY 05YEAR ENDED31 MAY 06YEAR ENDED31 MAY 055a. Retained earningsOpening balance 166 74 (81) (236)Current year net surplus – 191 95 155Transfer from foreign currency translation reserve (1) (99) – –Other movements 5 – – –Closing balance 170 166 14 (81)5b. Foreign currency translation reserveOpening balance (247) (310) – –Difference arising on translation of financial statementsof independent foreign operations 90 (36) – –Transfer to retained earnings 1 99 – –Closing balance (156) (247) – –5c. Minority interest64Balance at beginning of year 183 182 – –Acquisition of subsidiaries 3 1 – –Disposal of subsidiaries (1) – – –Buy-out of minority interests (68) – – –Foreign currency translation 21 (12) – –Share of surplus in subsidiaries 12 28 – –Dividends paid and provided to minority interests (22) (16) – –Closing balance 128 183 – –6. Receivables and prepaymentsTrade receivables 2,215 1,640 37 67Prepayments 84 135 59 109Due from subsidiaries 25 – – 5,946 6,612Due from associates 25 32 38 5 –Future hedging of receivables (loss)/gain – – (60) 241Other receivables 227 458 22 28Total receivables and prepayments 2,558 2,271 6,009 7,057At 31 May 2006, unrealised gains and losses associated with currency hedging contracts held other than for an on balancesheet trade receivables have been recognised in the Parent and then transferred to a subsidiary company. The effect of thisis to recognise the future hedging of receivables loss of $60 million (31 May 2005: Gain $241 million) and an equivalentincrease in amounts receivable from subsidiaries in the Parent. There is no impact on the earnings of the Parent or Group.

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED $M PARENT $MNOTESAS AT31 MAY 06AS AT31 MAY 05AS AT31 MAY 06AS AT31 MAY 057. InventoriesRaw materials 259 250 – –Finished goods 3,041 2,995 – –Total inventories 3,300 3,245 – –8. Property, plant and equipmentAt costLand 218 140 1 2Buildings 1,246 1,181 9 8Plant, vehicles and equipment 4,154 3,651 97 79Capital work in progress 248 460 20 3Total cost 5,866 5,432 127 92Accumulated depreciationBuildings 206 165 1 1Plant, vehicles and equipment 1,294 970 63 50Total accumulated depreciation 1,500 1,135 64 51Net book valueLand 218 140 1 2Buildings 1,040 1,016 8 7Plant, vehicles and equipment 2,860 2,681 34 29Capital work in progress 248 460 20 3Total property, plant and equipment 4,366 4,297 63 41659. InvestmentsAssociates 10,24 463 319 58 58Subsidiaries 24 – – 7,766 7,245Other investments 21 12 15 6Total investments 484 331 7,839 7,309The investment in associates held by the Parent entity represents part of the Group’s investment in the Dairy PartnersAmericas entities, which are included within the consolidated analysis provided in Note 10.

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED $MNOTESAS AT31 MAY 06AS AT31 MAY 0510. Investment in associatesAt cost 487 375Impairment of investment (2) (2)Post-acquisition share of reserves 48 (19)Dividends received (70) (35)Total investment in associates 463 319Goodwill included in investment in associates balance:Opening balance 124 107Goodwill arising on acquisition 94 24Amortisation of goodwill (7) (7)Closing balance 211 124Comprising:Goodwill arising on acquisition of associates 233 139Accumulated amortisation (22) (15)211 12466Total investment in associates comprises:Corporation Inlaca, CA 27 24DPA Manufacturing Holdings Limited 48 45Dairy Partners Americas Brasil Limitada 114 100DPA del Ecuador S.A. 26 22AFF P/S 73 65Britannia New Zealand Foods PVTE Limited 17 18DairiConcepts Management, LLC 27 27Dairy Industries (Jamaica) Limited 8 7DMV Fonterra Excipients GmbH and Co KG 115 –Other 8 11Total investment in associates 463 319Movement in investment in associates:Opening balance 319 274Acquired during the year 116 45Disposed of during the year – (4)Transferred from investment in subsidiaries 1 –Transferred to investment in subsidiaries (5) (1)Share of total recognised revenues and expenses, after taxation 28 22Foreign currency translation 39 (9)Dividends received (35) (8)Closing balance 463 319Share of total recognised revenues and expenses, after taxation of associates:Operating surplus before taxation 36 30Goodwill amortisation (7) (7)Taxation expense (1) (1)Share of total recognised revenues and expenses, after taxation 1 28 22

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED $MNOTESAS AT31 MAY 06AS AT31 MAY 0511. IntangiblesGoodwill on amalgamation and acquisition of subsidiaries:Cost 711 254Accumulated amortisation (62) (34)649 220Brands:Cost 1,570 1,368Accumulated amortisation (11) (10)Impairment (114) (116)1,445 1,242Other:Cost 80 76Accumulated amortisation (30) (26)Impairment (43) (43)7 7Total intangibles 2,101 1,469Goodwill:Opening balance 220 236Arising on acquisition of subsidiaries 493 4Arising on acquisition of minority interest – (6)Cancellation of minority interest shares 20 –Disposal of subsidiary (55) –Foreign currency translation (1) –Amortisation 2 (28) (14)Closing balance 649 22067Brands:Opening balance 1,242 1,293Impairment during the year 2 (2) (32)Impairment reinstatement 2 4 15Acquisition of subsidiaries 273 –Disposal of subsidiary (93) (11)Foreign currency translation 22 (22)Amortisation 2 (1) (1)Closing balance 1,445 1,242Other:Opening balance 7 17Research & development 4 3Transferred to property, plant and equipment – (6)Amortisation 2 (4) (7)Closing balance 7 7Total intangibles 2,101 1,469

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED $M PARENT $MNOTESAS AT31 MAY 06AS AT31 MAY 05AS AT31 MAY 06AS AT31 MAY 0512. Payables and accrualsTrade payables 418 373 – –Accruals 363 355 32 70Employee entitlements 159 151 19 12Due to subsidiaries 25 – – 3,722 4,499Due to associates 25 26 – 25 –Other 228 104 34 49Total payables and accruals 1,194 983 3,832 4,63013. ProvisionsProvision for restructuring and rationalisation:Opening balance 15 29 – 1Raised during the year 57 2 24 –Utilised during the year (28) (15) (3) –Reclassifications within note 13 – (1) – (1)Closing balance 44 15 21 –68Legal claims provisions:Opening balance 74 63 59 55Raised during the year 27 9 13 9Released during the year (36) – (33) –Utilised during the year (26) (7) (1) –Reclassifications within note 13 – 9 – 9Reclassifications from parent to other group entities – – – (14)Closing balance 39 74 38 59Other provisions:Opening balance 61 82 17 38Transferred from other group entities – – – 13Raised during the year 23 35 5 12Utilised during the year (14) (56) (4) (44)Reclassifications within note 13 – (8) – (8)Reclassifications from other balance sheet categories – 8 – 6Closing balance 70 61 18 17Total provisions 153 150 77 76Provisions are included within the statement of financialposition as follows:Current liabilities 103 88 41 23Non-current liabilities 50 62 36 53Total provisions 153 150 77 76

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200613. Provisions (continued)The nature of the above provisions is as follows:• The provision for restructuring and rationalisation includes obligations relating to restructuring and otherrationalisation costs.• The legal claims provision includes global estimates for legal matters. The timing and amount of the future obligations areuncertain, as they are contingent on the outcome of a number of judicial proceedings.• Other provisions arise globally in a number of subsidiaries in the normal course of business.More specific information has not been given on some provisions as the Directors believe this disclosure would prejudice theposition of the Company and the Group.CONSOLIDATED $M PARENT $MAS AT31 MAY 06AS AT31 MAY 05AS AT31 MAY 06AS AT31 MAY 0514. Current borrowingsCommercial paper 550 939 550 939Unsecured bank loans 139 234 81 168Finance lease liabilities 25 23 – –Medium term notes 1,079 284 1,079 267Total current borrowings 1,793 1,480 1,710 1,374Finance lease liabilities are secured over the related item of property, plant and equipment. The associated minimum leasepayments included in current finance lease liabilities is $37 million (31 May 2005: $35 million).69

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED $M PARENT $MAS AT31 MAY 06AS AT31 MAY 05AS AT31 MAY 06AS AT31 MAY 0515. Term borrowingsSecured bank loans 1 2 – –Unsecured bank loans 790 20 – –Finance lease liabilities 139 159 – –Medium term notes 2,333 2,147 2,245 2,090Perpetual notes – 90 – –Total term borrowings 3,263 2,418 2,245 2,090Term borrowings are repayable on the following terms:One to two years 359 1,076 299 949Two to five years 1,879 740 1,020 550Greater than five years 1,025 602 926 591Total term borrowings 3,263 2,418 2,245 2,090Secured bank loans are secured by a floating charge over the assets of the borrowing subsidiary. Finance lease liabilities aresecured over the related item of property, plant and equipment.70Non-current finance lease liabilities include thefollowing amounts:Minimum lease payments 161 185 – –Future interest cost (22) (26) – –Total non-current finance lease liabilities 139 159 – –Non-current finance lease liabilities are repayableon the following terms:One to two years 54 23 – –Two to five years 85 129 – –Greater than five years – 7 – –Total non-current finance lease liabilities 139 159 – –The perpetual notes issued by Bonlac Foods Limited were redeemed in November 2005.

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED $M PARENT $MNOTESAS AT31 MAY 06AS AT31 MAY 05AS AT31 MAY 06AS AT31 MAY 0516. Deferred taxationOpening balance (7) (53) 81 90Realised on disposal of subsidiary (8) – – –Deferred taxation included in taxation expense 3 22 46 (19) (9)Closing balance 7 (7) 62 81The deferred taxation asset/(liability) is represented by:Property, plant and equipment (257) (225) (2) (1)Employee entitlements 48 45 6 6Inventories 61 22 – –Financial arrangements (1) (35) (4) (1)Receivables, payables and provisions 42 51 14 6Other 40 37 – (2)Deferred tax asset/(liability) (67) (105) 14 8Tax losses recognised New Zealand 48 73 48 73Tax losses recognised offshore 26 25 – –Total deferred taxation asset/(liability) 7 (7) 62 8117. Capital notesThe capital notes are unsecured subordinated interest bearing obligations. Interest is payable on a quarterly basis at a rateof 7.90% per annum (31 May 2005: 7.73%). This rate is reset on 10 July each year.71The capital notes have no fixed maturity date and continue in existence until redeemed by the Company on an electiondate, or otherwise purchased by the Company through the secondary market, or off market after allotment with agreementfrom the holder, or are redeemed or purchased by the Company from its shareholders in accordance with the Company’sconstitution. The capital notes have an election date of 10 July in each year. The Company has the option to redeem all orpart of the capital notes for cash on each election date.On 26 April 2006, Fonterra issued a notice of election to redeem for cash certain of the capital notes. The capital notes tobe redeemed have been included in current liabilities and include the premium on redemption of $26 million (note 2). Therecord date for the redemption was 30 June 2006, with the redemption occurring on 10 July 2006. The redemption amountfor each capital note redeemed was $1.04833.

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED $M PARENT $MNOTESYEAR ENDED31 MAY 06YEAR ENDED31 MAY 05YEAR ENDED31 MAY 06YEAR ENDED31 MAY 0518. Cash flows7218. (a) Reconciliation of net surplus to netcash flows from operating activitiesNet surplus 12 219 95 155Non-cash items:Amortisation of intangibles 2 33 22 – –Depreciation 2 462 448 16 20Brand impairment 2 2 32 – –Brand impairment reinstatement 2 (4) (15) – –Movement in deferred taxation 16 (22) (46) 19 9Gain on disposal of investments 1 (82) (243) – –(Gain)/loss on disposal of property plantand equipment 1,2 1 (14) – (7)Share of total recognised revenue and expensesof associates after taxation 1,10 (28) (22) – –Impairment of property, plant and equipment 2 8 6 – –Revaluation of investments insubsidiaries to net asset backing 2 – – (514) (528)Other non-cash items 2 5 – (1)372 173 (479) (507)Movement in working capital decrease/(increase):Movement in receivables and prepayments 6 (293) (439) 387 124Movement in inventories 7 (55) (384) – –Movement in current taxation balances (14) (21) (44) 4Movement in other current assets 4 48 1 2Movement in owing to suppliers (290) 275 (323) 279Movement in payables, accruals andother current liabilities 166 (36) (69) 21Movement in amounts due to and from associates 6,12 32 (20) 20 –Movement in provisions 13 15 (24) 18 (18)(435) (601) (10) 412Items classified as investing and financing activities (181) 437 (560) (408)Net cash flows from operating activities (232) 228 (954) (348)18. (b) Non-cash investing and financing transactionsFor the Group, there were two material non-cash transactions for the year ended 31 May 2006. The acquisition of theNew Zealand Dairy Foods’ business, as disclosed in note 19(a), included a $373 million non-cash component of considerationbeing the fair value of Mainland Products Limited.On 1 September 2005 Bonlac Foods Limited (BFL), a partially owned subsidiary of Fonterra, completed a selective sharecancellation of the remaining shares held by the minority shareholder, Bonlac Supply Company, issuing them with unsecuredcapital notes. As a result of this transaction Fonterra now owns 100% of BFL.There were no material non-cash transactions for the year ended 31 May 2005.

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200619. Business combinations19. (a) Acquisition of New Zealand Dairy Foods (“NZDF”)On 31 August 2005 the Group entered into an agreement to purchase the business of NZDF (a subsidiary of Rank GroupLimited) in return for the Group’s 100% investment in Mainland Products Limited (“MPL”) and a net cash payment for thedifference between the fair values of MPL and NZDF business acquired. The net cash consideration including transactioncosts, working capital adjustments and an incentive payment totalled $356 million.The disposal of MPL gave rise to a net gain of $57 million to the Group.The transaction had the following net impact on the assets and liabilities of the Group:CONSOLIDATED $MACQUISITION OFNZDF BUSINESSDISPOSALOF MPLNETIMPACTOther current assets 55 (78) (23)Property, plant & equipment 70 (115) (45)Intangibles 260 (148) 112Other non-current assets – (11) (11)Current liabilities (34) 49 15Net assets 351 (303) 48Net consideration (343) (13) (356)Fair value of Mainland Products Limited (373) 373 –Total consideration (716) 360 (356)73Net assets 351 (303) 48Gain on disposal – (57) (57)Total consideration (716) 360 (356)Goodwill arising on acquisition (365) – (365)Net cash paid (345)Amounts owing to Rank Group (11)Total net consideration (356)

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200619. Business combinations (continued)19. (b) Other acquisitionsIn addition to the acquisition of a portion of the NZDF business the Group also made other acquisitions including thepurchase of:(a) 100% of the shares in Kapiti Fine Foods Limited and United Milk Limited (“Kapiti”);(b) the remaining 50% of Civil Whey Limited;(c) the business of the Pastryhouse Limited; and(d) the business relating to the Dennington processing plant.Of these, the only material acquisition was the purchase of Kapiti, which was acquired on 31 March 2006 for $169 million,including transaction costs, from Foodstuffs (Wellington) Co-operative Society Limited. This transaction resulted in goodwillarising on acquisition of $124 million.There were no material acquisitions for the year ended 31 May 2005.Total other acquisitions (including the acquisition of Kapiti, the remaining 50% of Civil Whey Limited, the assets of thePastryhouse Limited and the assets relating to the Dennington processing plant) had the following net impact on the assetsand liabilities of the Group:CONSOLIDATED $MON ACQUISITION31 MAY 06ON ACQUISITION31 MAY 0574Total assets 93 –Total liabilities (22) –Net assets 71 –Transfer investment in associate to investments in subsidiaries (4) –Group share of uplift in fair value of assets 5 –Total consideration (187) –Net Goodwill arising on acquisition (115) –Goodwill arising on acquisition (128) –Discount arising on acquisition 13 –Net Goodwill arising on acquisition (115) –The discount on acquisition arising has been allocated to non monetary assets as follows:Property, plant and equipment 11 –Inventory 2 –13 –The discount on acquisition recognised in income in the current year totals $3 million (31 May 2005: $1 million).Reconciliation to statement of cash flowsCash paid (195) –Deferred settlement (3) –Performance guarantee recoverable 11 –Total (187) –

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200619. Business combinations (continued)19. (c) Other disposalsIn addition to the disposal of MPL the Group also disposed of the following businesses:(a) the Group’s Inhalation Grade Lactose business;(b) 50% of the Group’s interest in RD1 Limited;(c) 100% of NDS Fuel Limited;(d) 100% of New Zealand Milk (Egypt) SAE;(e) 100% of New Zealand Milk Enterprises (Russia) Limited; and(f) 100% of Fonterra (CIS) Closed Stock Company (Russia).This had the following impact on the assets and liabilities of the Group:CONSOLIDATED $MON DISPOSAL31 MAY 06ON DISPOSAL31 MAY 05Total assets 67 51Total liabilities (20) (47)Net assets 47 4Net proceeds 78 37Gain on disposal 31 33Less elimination of 50% gain against investment in associate (8) –Net Gain on disposal 23 3375Reconciliation to statement of cash flowsNet proceeds 78 37Less receivables from acquirer (69) –Plus settlement of intercompany loans – 27Total cash received 9 64The only material disposals during the year ended 31 May 2006 were the disposal of the Group’s Inhalation Grade Lactosebusiness and 50% of Fonterra’s interest in RD1 Limited. On 31 May 2006 Fonterra had entered into an agreement to dispose100% of its Inhalation Grade Lactose business (DMV-Fonterra Excipients (NZ) Limited) to DMV-Fonterra Excipients GmbH &Co KG, and then purchase 50% of DMV-Fonterra Excipients GmbH & Co KG. Total proceeds from this disposal were $52million (including transaction costs and working capital adjustments) with net assets disposed of $36 million, resulting in again on sale of $16 million. As Fonterra still owns 50% of the Inhalation Grade Lactose business through its purchase of 50%of DMV-Fonterra Excipients GmbH & Co KG, 50% of the $16 million gain was offset against the investment in associate,giving a total gain recognised of $8 million for the year.

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200619. (c) Other disposals (continued)On 31 May 2006, the Group had entered into an agreement to divest 50% of its ownership of RD1 Limited for $18 million(including transaction costs and net asset adjustment). The net assets disposed were $1 million resulting in a gain on disposalof $17 million. The investment in RD1 Limited will now be accounted for as an associate.There were two material disposals during the year ending 31 May 2005 being the disposal of the Group’s Fonterra Brands’interests in Mexico and Bangladesh as follows:On 1 February 2005, the Group divested its ownership in New Zealand Milk Products (Bangladesh) Limited, with a net nilimpact on the Group result.On 2 March 2005, the Group divested 100% of its Fonterra Brands Mexican group of companies which includes:Milk Products Holding (Mexico) Limited (MPHM) and its subsidiaries:Servilac SA de CV;New Zealand Milk (Mexico) Holdings SA de CV;New Zealand Milk (Mexico) SA de CV;Lácteos Finos Mexicanos SA de CV.and an associated brand holding company Xemlet Global Limited.The Mexican disposal gave rise to a gain on disposal of $33 million. In addition the transaction also triggered a brandreinstatement of $9 million and the recognition of tax losses not previously recognised, totalling $8 million. Therefore thetotal gains to the Group forming part of the prior year result arising from this transaction amounted to $50 million.7620. Financial instrumentsThe Group is subject to a number of financial risks, which arise as a result of its operational activities.To manage and limit the effect of those financial risks, the Board of Directors has approved a Treasury Policy that coversdefined limits and delegated authority levels, and authorised use of various financial instruments. The policies and financialinstruments being utilised at balance date are reported below.Commodity price riskFluctuations in world dairy commodity prices can have a significant impact on the Group’s sales revenue and inventory sales.The Group is currently unable to hedge its exposure to commodity price risk due to the absence of any effective commodityprice hedging markets.Foreign exchange riskForeign exchange risk is the risk of cash flow uncertainty that may arise from a movement in foreign exchange rates to whichthe Group may be exposed.The main impacts of foreign exchange movements on the Group arise from:• Transaction risk - variations in the New Zealand dollar value of the Group’s net foreign cash flows.• Translation risk - the value of the Group’s investment in foreign subsidiaries and associates and the Group’s foreigncurrency debt.Approximately three quarters of the Group’s net foreign exchange exposure is against the United States dollar. The Group’sobjective is to manage foreign exchange risk and to provide greater certainty to the forecast payout.The Parent company operates a centralised Group Treasury that uses forward exchange contracts, currency options andcross currency interest rate swaps to manage these risks in accordance with the Board approved Treasury Policy anddelegated authorities.

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200620. Financial instruments (continued)Notional and principal balancesThe notional or principal contract amounts of foreign exchange instruments outstanding at balance date are:CONSOLIDATED AND PARENT $MAS AT31 MAY 06AS AT31 MAY 05In relation to receivables and future sales:Sold forward foreign exchange contracts (4,033) (2,085)Purchased forward foreign exchange contracts 8,908 6,316Net forward foreign exchange contracts 4,875 4,231Sold currency option contracts (2,629) (670)Purchased currency option contracts 4,244 4,300Net currency options 1,615 3,630Net contracts in relation to receivables and future sales 6,490 7,861In relation to borrowings:Sold forward foreign exchange contracts (1,248) (853)Purchased forward foreign exchange contracts 1,650 1,735Net forward foreign exchange contracts 402 882Cross currency interest rate swaps 2,607 1,735Net contracts in relation to borrowing 3,009 2,61777The Parent company has a further $3 million (31 May 2005: $31 million) of net foreign exchange contracts outstanding withsubsidiary companies as at 31 May 2006.Interest rate riskInterest rate risk is the risk that the Group’s cost of funds changes as a result of changes in interest rates that the Grouppays on its outstanding debt.The Group’s objective in interest rate risk management is to minimise the cost of debt. In accordance with the Treasury Policy,the Group uses interest rate swaps (including cross-currency interest rate swaps) to manage its interest rate risk within Boardapproved limits.Notional and principal balancesThe notional or principal contract amounts of interest rate instruments outstanding at balance date are:CONSOLIDATED AND PARENT $MAS AT31 MAY 06AS AT31 MAY 05Interest rate swaps 6,654 4,909Cross currency interest rate swaps 2,607 1,7359,261 6,644

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200620. Financial instruments (continued)Repricing analysisThe following tables identify the periods in which interest rates are subject to review on financial assets and liabilities.31 MAY 06 CONSOLIDATED $MEFFECTIVEINTEREST RATETOTAL6 MONTHSOR LESS6-12MONTHS1-2YEARS2-5YEARS>5YEARSAssetsCash balances 7% 137 137 – – – –Receivables and prepayments – 2,558 2,558 – – – –Total 2,695 2,695 – – – –LiabilitiesPayables and accruals/owingto suppliers – 1,886 1,886 – – – –Bank overdraft 7% 115 115 – – – –Borrowings (excluding perpetual notes) 7% 5,056 2,667 1,004 – 459 926Capital notes 8% 599 599 – – – –Total 7,656 5,267 1,004 – 459 92678Off balance sheet instrumentsInterest rate swaps – 198 320 (114) (830) 426Cross currency interest rate swaps – (479) 400 – 79 –Repricing gap (4,961) (2,853) (284) (114) (1,210) (500)31 MAY 05 CONSOLIDATED $MEFFECTIVEINTEREST RATETOTAL6 MONTHSOR LESS6-12MONTHS1-2YEARS2-5YEARS>5YEARSAssetsCash balances 7% 116 116 – – – –Receivables and prepayments – 2,271 2,271 – – – –Total 2,387 2,387 – – – –LiabilitiesPayables and accruals/owingto suppliers – 1,965 1,965 – – – –Bank overdraft 7% 79 79 – – – –Borrowings (excluding perpetual notes) 7% 3,808 1,817 72 978 343 598Perpetual notes 9% 90 90 – – – –Capital notes 8% 483 483 – – – –Total 6,425 4,434 72 978 343 598Off balance sheet instrumentsInterest rate swaps – 94 (202) 56 (500) 552Cross currency interest rate swaps – (428) – 350 39 39Repricing gap (4,038) (2,381) (274) (572) (804) (7)

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200620. Financial instruments (continued)31 MAY 06 PARENT $MEFFECTIVEINTEREST RATETOTAL6 MONTHSOR LESS6-12MONTHS1-2YEARS2-5YEARS>5YEARSAssetsCash balances 7% 10 10 – – – –Receivables and prepayments – 6,009 6,009 – – – –Total 6,019 6,019 – – – –LiabilitiesPayables and accruals/owingto suppliers – 4,524 4,524 – – – –Bank overdraft 7% 12 12 – – – –Borrowings 7% 3,955 1,647 1,004 – 378 926Capital notes 8% 599 599 – – – –Total 9,090 6,782 1,004 – 378 926Off balance sheet instrumentsInterest rate swaps – 198 320 (114) (830) 426Cross currency interest rate swaps – (479) 400 – 79 –Repricing gap (3,071) (1,044) (284) (114) (1,129) (500)7931 MAY 05 PARENT $MEFFECTIVEINTEREST RATETOTAL6 MONTHSOR LESS6-12MONTHS1-2YEARS2-5YEARS>5YEARSAssetsCash balances 7% 1 1 – – – –Receivables and prepayments – 7,057 7,057 – – – –Total 7,058 7,058 – – – –LiabilitiesPayables and accruals/owingto suppliers – 5,645 5,645 – – – –Bank overdraft 7% 8 8 – – – –Borrowings 7% 3,464 1,650 60 949 214 591Capital notes 8% 483 483 – – – –Total 9,600 7,786 60 949 214 591Off balance sheet instrumentsInterest rate swaps – 94 (202) 56 (500) 552Cross currency interest rate swaps – (428) – 350 39 39Repricing gap (2,542) (1,062) (262) (543) (675) –

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200620. Financial instruments (continued)Liquidity riskLiquidity risk is the risk that the Group is unable to meet its obligations as and when the amounts fall due.In accordance with the Treasury Policy, the Group has policies and limits in place to manage liquidity risk. The Grouphas undrawn funding under two committed bank facilities of $1.66 billion in total as at 31 May 2006 (31 May 2005:$1.26 billion).Credit riskCredit risk is the risk of loss arising from the failure of a debtor or trading counterparty to honour fully any financial orcontractual obligation.The Group incurs credit risk as a result of transactions with customers from its normal sales activities and transactions withfinancial institutions.Contracts for sale are only entered into with customers whose credit limits are in accordance with the Group’s delegatedauthorities approved by the Board.The maximum credit risk on cash, receivables and other investments is best represented by their carrying value. The maximumcredit risk on off-balance sheet financial instruments is equivalent to the values reported in the Fair Value Summary table.Group Treasury has policy covering exposures to financial institutions, and these are monitored against approved limits ona daily basis. The Group does not hold collateral or security in relation to credit risk, and has no undue concentrations ofcredit risk.Fair valueThe carrying value of financial instruments is equivalent to their fair value, unless where summarised below:80CONSOLIDATED $MAS AT 31 MAY 06 AS AT 31 MAY 05CARRYINGVALUEFAIRVALUECARRYINGVALUEFAIRVALUELiabilitiesBorrowings (5,056) (5,073) (3,808) (3,895)Perpetual notes – – (90) (100)Capital notes (599) (606) (483) (523)Derivative instrumentsForward foreign exchange contracts (14) (45) 54 274Currency options 57 29 106 130Cross currency interest rate swaps (34) (37) (267) (257)Interest rate swaps 9 (13) 10 42PARENT $MAS AT 31 MAY 06 AS AT 31 MAY 05CARRYINGVALUEFAIRVALUECARRYINGVALUEFAIRVALUELiabilitiesBorrowings (3,955) (3,971) (3,464) (3,551)Capital notes (599) (606) (483) (523)Derivative instrumentsForward foreign exchange contracts (50) (48) 274 274Currency options 29 29 130 130Cross currency interest rate swaps (34) (37) (267) (257)Interest rate swaps 11 (11) 10 42

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006CONSOLIDATED $M PARENT $MAS AT31 MAY 06AS AT31 MAY 05AS AT31 MAY 06AS AT31 MAY 0521. Contingent liabilitiesContingent liabilities comprise:Customs and excise bonds 20 17 – –Underwriting commitments,performance bonds and other 31 38 3 11Aggregate amount of associates liabilities for whichthe group is jointly and severally liable 34 16 34 16Total contingent liabilities 85 71 37 27In the normal course of its business Fonterra, its subsidiaries and associates are exposed to claims, legal proceedings andarbitrations that may in some cases result in costs to the Group. The Directors believe that these have been adequatelyprovided for by the Group and there are no additional legal proceedings or arbitrations that are pending at the date of thesefinancial statements that require provision or disclosure.22. CommitmentsCapital commitmentsBuildings 33 6 – –Plant, vehicles and equipment 87 171 3 7Total capital commitments 120 177 3 781Operating lease commitmentsNon-cancellable operating lease commitments per annum:Less than one year 57 42 6 4One to two years 36 27 6 4Two to five years 64 43 13 10Greater than five years 22 16 1 5Share of associates’ operating lease commitments 35 32 – –Total operating lease commitments 214 160 26 23The Group leases premises, plant and equipment.23. Segmental analysisThe Group operates predominantly in two industrial segments – Ingredients and Consumer Products (predominantly FonterraBrands) and two geographical segments - New Zealand and other. Ingredients’ operations comprise the manufacture andglobal marketing of dairy commodity and value-added ingredients products, including trading dairy products on othermanufacturers’ behalf. Consumer products operations comprise the production, marketing and sale of value-added milkpowders, liquid milks and yoghurts, packaged natural cheese, processed cheese, butter, spreads and cream to retailers andfoodservice businesses in more than 30 countries.In the absence of a market based price for milk and in order to present the results of the Group in its two principal segments,the analysis set out below is based on the cost of milk for the Ingredients segment as being Fonterra’s Commodity MilkPrice. This is the estimated payout for milk that Fonterra would have been able to make to enable it to recover all its costs,including a fair return on capital, based on its actual volume of supply but assuming that non-commodity products had beenmanufactured as commodity products and taking account of Fonterra’s actual plant configuration and the location of milk.

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200623. Segmental analysis (continued)CONSOLIDATED $MALL VALUES IN $ MILLIONSYEARENDED31 MAY 06YEARENDED31 MAY 05YEARENDED31 MAY 06YEARENDED31 MAY 05YEARENDED31 MAY 06YEARENDED31 MAY 05YEARENDED31 MAY 06YEARENDED31 MAY 05INDUSTRY SEGMENTS INGREDIENTS CONSUMER ELIMINATIONS CONSOLIDATEDSales to customers outside the group 9,211 8,548 3,790 3,775 – – 13,001 12,323Inter-segment sales 1 1,404 1,377 71 59 (1,475) (1,436) – –Total revenue 10,615 9,925 3,861 3,834 (1,475) (1,436) 13,001 12,323Segment operating surplus 2 725 601 288 265 (28) (43) 985 823Non-recurring income/(expense) 3 (31) 13 26 193 – – (5) 206Segment operating surplus includingnon-recurring items 694 614 314 458 (28) (43) 980 1,029Unallocated net interest expense (350) (260)Unallocated tax expense (40) (25)Value add payout component (578) (525)Group net surplus beforeminority interest 12 219Segment assets 4 9,094 8,372 4,672 3,849 (686) (409) 13,080 11,81282Capital employed 5 7,295 6,265 3,498 3,000 (48) (20) 10,745 9,2451Inter-segment sales are on an arms length basis.2Represents earnings before interest and taxation calculated on the basis of cost of milk to the Ingredients business being the Fonterra CommodityMilk Price and adjusted for non-recurring items.3The non-recurring income/(expense) items represent brand (impairment)/reinstatements, the gain on disposal of investments, one off restructuringcosts and other. The prior year represents brand (impairment)/reinstatements and gain on disposal of investment including National Foods.4A right of set off has been established for intercompany advances and funding.5Capital employed includes equity and the net interest bearing debt, including capital notes, of a segment.

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200623. Segmental analysis (continued)CONSOLIDATED $MALL VALUES IN $ MILLIONSYEARENDED31 MAY 06YEARENDED31 MAY 05YEARENDED31 MAY 06YEARENDED31 MAY 05YEARENDED31 MAY 06YEARENDED31 MAY 05YEARENDED31 MAY 06YEARENDED31 MAY 05GEOGRAPHICAL SEGMENTS NEW ZEALAND OTHER ELIMINATIONS CONSOLIDATEDSales to customers outside the group 10,130 9,656 2,871 2,667 – – 13,001 12,323Inter-segment sales 1 1,200 1,180 53 32 (1,253) (1,212) – –Total revenue 11,330 10,836 2,924 2,699 (1,253) (1,212) 13,001 12,323Segment operating surplus 2 874 720 115 100 (4) 3 985 823Non-recurring income/(expense) 3 15 198 (20) 8 – – (5) 206Segment operating surplus includingnon-recurring items 889 918 95 108 (4) 3 980 1,029Unallocated net interest expense (350) (260)Unallocated tax expense (40) (25)Value add payout component (578) (525)Group net surplus beforeminority interest 12 219Segment assets 4 11,504 10,365 1,993 1,732 (417) (285) 13,080 11,8121Inter-segment sales are on an arms length basis.2Represents earnings before interest and taxation calculated on the basis of cost of milk to the Ingredients business being the Fonterra CommodityMilk Price and adjusted for non-recurring items.3The non-recurring income/(expense) items represent brand (impairment)/reinstatements, the gain on disposal of investments, one off restructuringcosts and other. The prior year represents brand (impairment)/reinstatements and gain on disposal of investment including National Foods.4A right of set off has been established for intercompany advances and funding.83The following is supplementary information providing details of the operating revenues by country of domicile ofthe customer.CONSOLIDATED $MYEAR ENDED31 MAY 06YEAR ENDED31 MAY 05IngredientsAmericas 2,711 2,332Asia 2,869 2,565Australia & New Zealand 1,467 1,877Europe, Africa & the Middle East 2,164 1,774Total Ingredients’ Revenues 9,211 8,548ConsumerAmericas 615 673Asia 1,151 963Australia & New Zealand 1,782 1,769Europe, Africa & the Middle East 242 370Total Consumer Revenues 3,790 3,775Total Group Revenues 13,001 12,323

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200624. Group entitiesAll subsidiaries (consolidated), associates and joint ventures (equity accounted) are involved in either marketing, distribution,processing, technology or financing dairy products. All Group entities have a balance date of 31 May unless otherwiseindicated. The significant subsidiaries, associates and joint ventures of the Group are listed below.OVERSEAS SUBSIDIARIESCOUNTRY OFINCORPORATIONOWNERSHIPINTERESTS (%)AS AT31 MAY 06OWNERSHIPINTERESTS (%)AS AT31 MAY 0584New Zealand Milk (Australasia) Pty Limited Australia 100 100NZMP (UK) Ltd United Kingdom 100 100Fonterra (Europe) GmbH Germany 100 100Fonterra (Logistics) Ltd United Kingdom 100 100Sociedad Productores de Leche S.A., Soprole 1 Chile 57 57Fonterra (Mexico) S.A. de C.V. 1 Mexico 100 100Fonterra (USA) Inc USA 100 100Fonterra Brands Lanka (Private) Ltd 2 Sri Lanka 100 100Fonterra (Middle East) EC Bahrain 100 100PT Fonterra Brands Indonesia 2 Indonesia 100 100New Zealand Milk (Malaysia) Sdn Bhd Malaysia 100 100Fonterra Brands Phils. Inc. 2 Philippines 100 100Fonterra Brands (Hong Kong) Ltd 2 Hong Kong 100 100Fonterra Brands (Singapore) Pte Ltd 2 Singapore 100 100Fonterra Brands (New Young) Pte Ltd Singapore 51 –New Young Dairy Products Co. Ltd Taiwan 51 51New Tai Milk Products Co. Ltd Taiwan 51 51Fonterra (China) Ltd Hong Kong 100 100Fonterra (SEA) Pte Ltd Singapore 100 100Peters & Brownes Foods Pty Ltd Australia 100 100Fonterra Brands (Thailand) Ltd 2 Thailand 100 100Fonterra Brands (Australia) Pty Ltd 2 Australia 100 100Fonterra (Australia) Pty Ltd 3 Australia 100 100Australasian Food Holdings Pty Limited Australia 100 100Fonterra Brands (China) Ltd Hong Kong 100 100Bonlac Foods Limited and subsidiary companies 3, 4 Australia 100 501Balance Date 31 December (comparative ownership interest % consistent at 31 December 2005).2During 2005 and 2006 selected New Zealand Milk companies were renamed to Fonterra Brands.3On 1 June 2006 Bonlac Foods Limited was renamed Fonterra Australia Ltd and Fonterra (Australia) Pty Ltd was renamed Fonterra IngredientsAustralia Pty Ltd.4The balance date of Bonlac Foods Limited was changed during the year to 31 May from 30 June (comparative ownership interest % consistentat 30 June 2005).

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200624. Group entities (continued)NEW ZEALAND SUBSIDIARIESCOUNTRY OFINCORPORATIONOWNERSHIPINTERESTS (%)AS AT31 MAY 06OWNERSHIPINTERESTS (%)AS AT31 MAY 05Canpac International Limited New Zealand 100 100Fencepost.com Limited New Zealand 100 100Fonterra Insurance Limited New Zealand 100 100Fonterra Research Centre Limited New Zealand 100 100Mainland Products Limited 1 New Zealand – 100New Zealand Dairy Board New Zealand 100 100Fonterra Brands Limited 3 New Zealand 100 100Fonterra (New Zealand) Limited New Zealand 100 100Fonterra Limited New Zealand 100 100RD1 Limited 4 New Zealand – 100The Lactose Company of NZ Limited New Zealand 100 100Fonterra Brands (Tip Top) Limited 3 New Zealand 100 100ViaLactia Biosciences (NZ) Limited New Zealand 100 100Fonterra Brands (New Zealand) Ltd New Zealand 100 –Kapiti Fine Foods Ltd 2 New Zealand 100 –1The Group’s 100% interest in this entity was sold on 31 August 2005 (refer note 19).2Balance date 31 March.3During 2005 and 2006 selected New Zealand Milk companies were renamed to Fonterra Brands.854The Group disposed of 50% of this entity on 31 May 2006 and is now accounted for as associate.The ownership interest of the entities in the following table is less than or equal to 50%. However, they have been consolidatedon the basis that the Group controls them based on its capacity to determine the financing and operating policies that guidethe activities of these entities and has an entitlement to a significant level of ownership benefits.OVERSEAS SUBSIDIARIES 50% OR LESS OWNERSHIPCOUNTRY OFINCORPORATIONOWNERSHIPINTERESTS (%)AS AT31 MAY 06OWNERSHIPINTERESTS (%)AS AT31 MAY 05Fonterra Brands (Mauritius) Ltd Mauritius 49 49Fonterra Brands (Middle East) L.L.C. UAE 49 49Saudi New Zealand Milk Products Company Ltd Saudi Arabia 49 49Fonterra (Japan) Ltd Japan 50 50

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200624. Group entities (continued)The ownership interest of the following entities is 50% or less and the Group is not considered to exercise a controllinginterest. These entities are therefore accounted for as associates.OVERSEAS ASSOCIATES NOT CONSOLIDATEDCOUNTRY OFINCORPORATIONOWNERSHIPINTERESTS (%)AS AT31 MAY 06OWNERSHIPINTERESTS (%)AS AT31 MAY 05DairiConcepts Management L.L.C. 1 USA 50 50Corporacion Inlaca, C.A. 1 Venezuela 25 25DPA Manufacturing Holdings Limited 1 Bermuda 50 50Dairy Partners Americas Brasil Limitada 1 Brazil 50 50Dairy Partners Americas Argentina S.A. 1 Argentina 50 50Dairy Partners Americas del Ecuador S.A. 1 Ecuador 50 50Dairy Industries (Jamaica) Limited 1 Jamaica 50 50AFF P/S 3 Denmark 25 25Britannia New Zealand Foods PVTE Limited 4 India 49 49DMV Fonterra Excipients GmbH & Co KG 2 Germany 50 –1Balance Date 31 December (comparative ownership interest % consistent at 31 December 2005).2A 50% interest in this entity was acquired on 31 May 2006.3Balance Date 30 September (comparative ownership interest % consistent at 30 September 2005).4Balance Date 31 March (comparative ownership interest % consistent at 31 March 2006).86NEW ZEALAND ASSOCIATES NOT CONSOLIDATEDCOUNTRY OFINCORPORATIONOWNERSHIPINTERESTS (%)AS AT31 MAY 06OWNERSHIPINTERESTS (%)AS AT31 MAY 05RD1 Limited 1 New Zealand 50 –1The Group disposed of 50% of this entity on 31 May 2006 and is now accounted for as an associate.25. Related party transactionsNote 24 identifies all significant Group entities, including subsidiaries, associates and joint ventures. All of these entities,together with the non-significant subsidiaries, associates and joint ventures, are related parties of the Parent. There are noadditional related parties with whom material transactions have taken place.The Parent has entered into the following material related party transactions:• Loans and advances to/from related parties (refer to notes 6 and 12);• Interest income and expense on loans and advances (the majority of parent interest income disclosed in note 1 is fromrelated parties);• Sale of inventories (the majority of Parent sales disclosed in note 1 is to related parties);• Group tax loss offsets (refer to note 3); and• The Parent acts as a central treasury function for the Group.The Parent bears the cost of the following on behalf of certain subsidiaries:• Audit fees;• Rental expense;• Employee remuneration; and• Guarantees of borrowings/debt instruments.

Notes to the Financial Statements (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 200625. Related party transactions (continued)Directors and executives conduct business with the Parent and its subsidiaries in the normal course of their business activitiesas supplying shareholders. All of these transactions are conducted on commercial terms and conditions. Approximately 1%of payments to suppliers are paid to Directors and executives.26. Subsequent events noteOn 15 June 2006 Fonterra purchased 43% of Shijiazhuang San Lu Group, a Chinese dairy company for RMB 864 million,$174 million.On 1 June 2006 the Group transitioned to a new capital structure. The new structure resulted in the following:(a) Peak notes, redeemed and replaced with a capacity adjustment applied to payout;(b) Supply redemption rights (“SRR”), redeemed and replaced with excess shares;(c) The introduction of a new share standard (transition share standard) for the transition period requiring the injectionof further capital, as the transition share standard requires shareholders to hold more than one share per kilogram ofmilksolids; and(d) After the above steps, shareholders had two options:(i) Surrender some or all of any shares held that were in excess of the required minimum number; or(ii) Purchase additional shares so that the number of excess shares held after transition was completed equalled thenumber of SRRs held immediately prior to transition.However, the total number of excess shares held by a shareholder cannot exceed 20% of the required minimum shares.A summary of the movements resulting from the capital restructure are summarised below.87ALL VALUES IN $ MILLIONSCO-OPERATIVESHARESSRRPEAKNOTESTOTALEQUITYValue as at 31 May 2006 3,569 285 1,149 5,003Adjustment for 2006/07 season supplier movements (130) (15) (23) (168)Reverse end of season peak note accrual – – (37) (37)Value of equity prior to transition 3,439 270 1,089 4,798(a) Redemption of peak notes – – (1,089) (1,089)(b) Redemption of supply redemption rights 325 (270) – 55Supply redemption rights price differential (55) – – (55)(c) Additional investment required due to increasedShare Standard 897 – – 897(d) Net surrender of excess shares (63) – – (63)Value of equity after transition 4,543 – – 4,543Value of equity prior to transition 4,798Value of equity after transition 4,543Net cash paid 255Net cash paid resulting from the transition is $255 million.Later in the 2006/07 season, once all adjustments for transition are complete, shares will be consolidated back to one shareper kilogram of milksolids. This will result in shareholders holding a fewer number of shares than they held during thetransition period, at a higher value per share. Consolidation will be completed by December 2006.

Auditor’s ReportTO THE SHAREHOLDERS OF FONTERRA CO-OPERATIVE GROUP LIMITEDWe have audited the financial statements on pages 50 to 87. The financial statements provide information about the pastfinancial performance and cash flows of the Company and Group for the year ended 31 May 2006 and their financial positionas at that date. This information is stated in accordance with the accounting policies set out on pages 54 to 59.Directors’ ResponsibilitiesThe Company’s Directors are responsible for the preparation and presentation of the financial statements which give a trueand fair view of the financial position of the Company and Group as at 31 May 2006 and their financial performance andcash flows for the year ended on that date.Auditors’ ResponsibilitiesWe are responsible for expressing an independent opinion on the financial statements presented by the Directors andreporting our opinion to you.Basis of OpinionAn audit includes examining, on a test basis, evidence relevant to the amounts and disclosures in the financial statements.It also includes assessing:(a) the significant estimates and judgements made by the Directors in the preparation of the financial statements; and(b) whether the accounting policies are appropriate to the circumstances of the Company and Group, consistently appliedand adequately disclosed.88We conducted our audit in accordance with generally accepted auditing standards in New Zealand. We planned andperformed our audit so as to obtain all the information and explanations which we considered necessary to provide us withsufficient evidence to give reasonable assurance that the financial statements are free from material misstatements, whethercaused by fraud or error. In forming our opinion we also evaluated the overall adequacy of the presentation of informationin the financial statements.We carry out other assignments on behalf of the Company and Group in the areas of taxation compliance, transactionservices, financial assurance, and international accounting standard advisory services. Partners and employees of our firmmay deal with the Company and Group on normal terms within the ordinary course of trading activities of the Company andGroup. The firm has no other relationship with, or interest in, the Company and Group.Unqualified OpinionWe have obtained all the information and explanations we have required.In our opinion:(a) proper accounting records have been kept by the Company as far as appears from our examination of those records;and(b) the financial statements on pages 50 to 87:(i) comply with generally accepted accounting practice in New Zealand; and(ii) give a true and fair view of the financial position of the Company and Group as at 31 May 2006 and their financialperformance and cash flows for the year ended on that date.Our audit was completed on 24 July 2006 and our unqualified opinion is expressed as at that date.Chartered AccountantsAuckland

Statutory InformationFONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006Equity securities held at balance dateIn accordance with New Zealand Exchange Ltd Listing Rule 10.5.3(c), the following table identifies the Equity Securities inwhich each Director and their Associated Persons have a relevant interest as at 31 May 2006. The figure alongside eachDirector includes beneficially held securities, holdings by Associated Persons and joint holdings with Associated Persons.EQUITY SECURITIES HELD AS AT 31 MAY 2006 SHARES SRRsMalcolm Bailey 1,426,054 15,239Harry Bayliss 217,562 6,505Greg Gent 336,544 5,313Stuart Nattrass 4,248,760 13,930Earl Rattray 243,721 21,560Mark Townshend 1,483,640 71,744Henry van der Heyden 352,666 52,436Jim van der Poel 3,824,921 100,253John Wilson 2,083,164 100,036Co-operative statusIn accordance with Section 10 of the Co-operative Companies Act 1996, the Directors of Fonterra Co-operative GroupLimited unanimously resolved on July 24, 2006 that the Company was, for the year ended 31 May 2006, a co-operative dairycompany. The opinion was based upon the fact that:• Throughout that period the principal activities of the Company have been the activities stated in clause 1.2 of theCompany’s constitution:– the manufacture and sale of butter, cheese, dried milk, or casein, or any other product derived from milk or milksolidssupplied to the Company by its shareholders– the sale to any person of milk or milksolids supplied to the Company by its shareholders– the collection, treatment, and distribution for human consumption of milk or cream supplied to the Company by itsshareholders• Each of the Company’s principal activities are co-operative activities (as defined in section 3 of the Co-operative CompaniesAct 1996)• Throughout that period not less than 60 per cent of the voting rights attaching to shares in the Company have been heldby transacting shareholders (as defined in section 4 of the Co-operative Companies Act 1996).89Remuneration of DirectorsThe fees paid to each Director of Fonterra Co-operative Group Limited are scheduled below.FEES $M G Bailey 105,097H G Bayliss 105,097G R W France 128,282G W Gent 114,653G S Hawkins 118,282D M Hoare 36,290I R Johnson 44,197S J Nattrass 105,097E S Rattray 105,097M G Townshend 114,653H W van der Heyden 217,742J W van der Poel 105,097J S Wilson 105,097

Statutory Information (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006Subsidiary company DirectorsThe following companies were subsidiaries of Fonterra Co-operative Group Limited as at 31 May 2006. Directors as at thatdate are listed; those who resigned during the year are denoted with an “R”. Alternate Directors are denoted with an “A”.Where an amount is given this represents the total Director’s remuneration and the value of other Director’s benefits receivedfrom the specific company during the year ended 31 May 2006.90236752 Limited (formerly AnchorSuperannuation Investments Ltd):G M Cowan, P J Kilgour, C L Gandell (R), K J Hampton (R),D Patterson (R), E S Rattray (R), D W C Scott (R),J Stronach (R), A R Whatmough (R), A G Wilding (R)616059 Limited:G M Cowan, J C DaleAnchor Ethanol Limited:G M Cowan, J C DaleCanpac International Limited:G M Cowan, J C DaleDairy Industry Superannuation SchemeTrustee Limited:M A Apiata-Wade, P J Robertson, G Roper, D W C Scott, AD Steele, N W Walker, A G WildingDMV - Fonterra Excipients (NZ) Limited:G M Cowan, P J KilgourFencepost.com Limited:G M Cowan, P J Kilgour, J C Dale (R)Fonterra (APV) Limited:G M Cowan, D A MatthewsFonterra (Asia) Limited:G M Cowan, J C DaleFonterra (International) Limited:G M Cowan, J C DaleFonterra (Iran) Limited:G M Cowan, J C DaleFonterra (Middle East) Limited:G M Cowan, J C DaleFonterra (New Zealand) Limited:G M Cowan, J C DaleFonterra (Number One) Limited:G M Cowan, J C DaleFonterra Brands (China Holdings) Limited(formerly New Zealand Milk (China) Ltd):G M Cowan, P J Kilgour, J C Dale (R)Fonterra Brands (New Zealand) Limited:G M Cowan, P J KilgourFonterra Brands (The Pastryhouse) Limited:G M Cowan, P J KilgourFonterra Brands (Tip Top Investments) Limited(formerly Tip Top Investments Ltd):G M Cowan, D A MatthewsFonterra Brands (Tip Top) Limited(formerly Tip Top Ice Cream Company Ltd):G M Cowan, D A MatthewsFonterra Brands Investments(NZ) Limited (formerly Knoll Holdings NZ Ltd):G M Cowan, D A MatthewsFonterra Brands Limited(formerly New Zealand Milk Ltd):G M Cowan, P J Kilgour, J C Dale (R)Fonterra Corporate Researchand Development Limited:G M Cowan, J C DaleFonterra Enterprises International Limited:G M Cowan, P J Kilgour, J C Dale (R)Fonterra Enterprises Limited:G M Cowan, P J Kilgour, J C Dale (R)Fonterra Equities Limited:G M Cowan, P J Kilgour, J C Dale (R)Fonterra Finance (N.Z.) Limited:G M Cowan, P J Kilgour, J C Dale (R)Fonterra Finance Corporation Limited:G M Cowan, P J Kilgour, J C Dale (R)Fonterra Holdings (Americas) Limited:G M Cowan, J C DaleFonterra Holdings (Argentina) Limited:G M Cowan, J C DaleFonterra Holdings (Brazil) Limited:G M Cowan, J C DaleFonterra Holdings (Ecuador) Limited:G M Cowan, J C DaleFonterra Holdings (Venezuela) Limited:G M Cowan, J C DaleFonterra Holdings Limited:G M Cowan, J C Dale

Statutory Information (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006Subsidiary company Directors (continued)Fonterra Insurance Limited:G M Cowan, P J Kilgour, J C Dale (R)Fonterra IP Limited:G M Cowan, D A MatthewsFonterra Limited:G M Cowan, J C DaleFonterra Manufacturing (Americas) Limited:G M Cowan, J C DaleFonterra PGGRC Limited:G M Cowan, P J Kilgour, J C Dale (R)Fonterra Projects Limited:G M Cowan, P J Kilgour, J C Dale (R)Fonterra Research Centre Limited:G M Cowan, J C DaleFonterra TM Limited:G M Cowan, J C DaleFood Solutions Group 2000 Limited:G M Cowan, J C DaleGeneral Foods Corporation (N.Z.) Limited:G M Cowan, D A MatthewsGlencoal Energy Limited:G M Cowan, J C DaleKapiti Cheeses Limited:G M Cowan, P J KilgourKapiti Dairy Foods Limited:G M Cowan, P J KilgourKapiti Dairy Holdings Limited:G M Cowan, P J KilgourKapiti Fine Foods Limited:G M Cowan, P J Kilgour, B J Drake (R), S W Irons (R),G C Malcolmson (R), A S McNeil (R)Kapiti Gourmet Limited:G M Cowan, P J KilgourKapiti Icecream Limited:G M Cowan, P J KilgourKey Ingredients New Zealand Limited:G M Cowan, J C DaleMilk Products Finance Limited:G M Cowan, J C DaleMilk Products International Limited:G M Cowan, J C DaleNaturalac Nutrition Limited:G M Cowan, D A MatthewsNew Zealand Dairy Board:G M Cowan, J C DaleNew Zealand Dairy Exporter Limited:G M Cowan, P J Kilgour, J C Dale (R)New Zealand Milk (Australasian Holdings) Limited:G M Cowan, P J Kilgour, J C Dale (R)New Zealand Milk (CIS Holdings) Limited:G M Cowan, P J Kilgour, J C Dale (R)New Zealand Milk (Denmark) Limited:G M Cowan, P J Kilgour, J C Dale (R)New Zealand Milk (International) Limited:G M Cowan, P J Kilgour, J C Dale (R)New Zealand Milk (Mauritius Investments) Limited:D A MatthewsNew Zealand Milk Brands Limited:G M Cowan, P J Kilgour, J C Dale (R)New Zealand Milk Products Limited:G M Cowan, J C DaleNzagbiz Limited:G M Cowan, D A MatthewsNZM (Dairy Holdings) Limited:G M Cowan, P J Kilgour, J C Dale (R)On-Farm Productivity Services Limited:G M Cowan, P J KilgourPeters Ice Cream Company (N.Z.) Limited:G M Cowan, D A MatthewsPinnacle Holdings NZ Limited:G M Cowan, P J Kilgour, G L Beatty (R), R G O’Connor (R)Promak No. 2 Limited:G M Cowan, P J Kilgour, J C Dale (R)Promak Technology (NZ) Limited:G M Cowan, P J Kilgour, J C Dale (R)RD1 Limited:B S Harris, G R Stuart, G M Cowan (R), J C Dale (R),P J Kilgour (R)SAITL Technologies Limited:R R Soar, P J Spooner, P J van Boheemen, J S WilsonSouth Auckland Independent Testing Society Limited:R R Soar, P J Spooner, P J van Boheemen, J S Wilson,R Andela (A), A Gane (A), M E Matthews (A)91

Statutory Information (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006Subsidiary company Directors (continued)92Sovenz Limited:G M Cowan, P J Kilgour, J C Dale (R)Te Roto Cheeses Limited:G M Cowan, P J KilgourThe Lactose Company of New Zealand Limited:G M Cowan, J C DaleUnited Milk Limited:G M Cowan, P J KilgourViaLactia Biosciences (NZ) Limited:G M CowanViaLactia Bovine Limited:G M CowanViaLactia Clover Limited:G M CowanWhareroa Co-Generation Limited:G M Cowan, P J Kilgour, J C Dale (R)Whareroa Farm Limited:G M Cowan, P J Kilgour, J C Dale (R)Whareroa Power Limited:G M Cowan, P J Kilgour, J C Dale (R)A.C.N. 111 834 489 Pty Ltd [Australia]:G M Cowan, K J Murray, A M Coleman (A), D K Mallinson(A), G L Beatty (R), D K Mallinson (R)A.C.N. 113 345 430 Pty Ltd [Australia]:B S Donnison, P L ThornAnchor Foods (Malaysia) Sdn Bhd [Malaysia]:Chan T Y, Lee W NAnchor Foods Limited [United Kingdom]:G M Cowan, G R Sharma, D A Pilkington (R)Anmum (Malaysia) Sdn. Bhd. [Malaysia]:G P Gomez Lackington, Lee W N, A R SarkerArctic Foods Pty Ltd [Australia]:G M Cowan, K J Murray, A M Coleman (A), D K Mallinson(A), G L Beatty (R), D K Mallinson (R), D A Pilkington (R),B S Pummell (R), N A Thomas (R)Australasian Food Holdings Pty Limited [Australia]:G M Cowan, K J Murray, A M Coleman (A), D K Mallinson(A), G L Beatty (R), D K Mallinson (R), D A Matthews (R)Bonlac Finance Ltd [Australia]:B S Donnison, S G Nelson, P L ThornBonland Cheese Trading Pty Ltd [Australia]:G M Cowan, K J Murray, A M Coleman (A), D K Mallinson(A), G L Beatty (R), D K Mallinson (R), D A Matthews (R)Comercial Dos Alamos S.A. [Chile]:A Alarcón Araya, H Covarrubias Lalanne, M F GanaEguiguren, J F Silva Barroilhet, J M Ugarte UndurragaComercial Santa Elena S.A. [Chile]:A Alarcón Araya, H Covarrubias Lalanne, M F GanaEguiguren, J F Silva Barroilhet, J M Ugarte UndurragaCottee Nutriceuticals Pty. Ltd [Australia]:D K Mallinson, G R StuartCottee Nutritionals Pty Ltd [Australia]:D K Mallinson, G R StuartDairy Enterprises (Chile) S.A. [Chile]:M P Campbell, G M Cowan, J C Dale, A J Duncan,M D Wynne, S Diez (A), J P Egaña (A), C Herrera (A),L O Herrera (A), S Obach (A)Dairy Enterprises International (Chile) Limited[Cayman Islands]:S R Armstrong, R D Castro UrdialesDairy Fresh Pty. Ltd. [Australia]:G M Cowan, K J Murray, A M Coleman (A), D K Mallinson(A), G L Beatty (R), D K Mallinson (R), D A Matthews (R)Dairymas (Malaysia) Sdn Bhd [Malaysia]:G P Gomez Lackington, W I A B W Ismail, W I B W Nik,P Pant, A R Sarker, M D Wynne (R)Fonterra (Brasil) Ltda [Brazil]:D H Broad, B T WillisFonterra (Central America) S.A. [Panama]:M D Foster, M d R García de Pullin, B T WillisFonterra (Centro America) S.A. [Guatemala]:M D Foster, M d R García de Pullin, R O’Neill, B T WillisFonterra (China) Limited [Hong Kong]:G M Cowan, J C Dale, M B N Dewdney, M J NewellFonterra (CIS) Limited Liability Company (formerlyNew Zealand Milk (CIS) LLC) [Russian Federation]:A Eremin, M K N Oldham (R)Fonterra (Europe) GmbH [Germany]:P H Landon-Lane, K A Wickham (R)Fonterra (Ing.) Limited [Mauritius]:J C Dale, M B N Dewdney

Statutory Information (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006Subsidiary company Directors (continued)Fonterra (Italy) S.P.A. [Italy]:P H Landon-Lane, P Pennati, G L Waterhouse, K AWickham (R)Fonterra (Japan) Limited [Japan]:J C Dale, M B N Dewdney, H Fukaii, Y Fukuoka,K Kumagai, T Morii, R Quin, M J Newell (R), J P Shaskey (R)Fonterra (Latam) Ltd [Bermuda]:G M Cowan, J C DaleFonterra (Logistics) Ltd [United Kingdom]:G L WaterhouseFonterra (Mexico) S.A. de C.V. [Mexico]:D A Matthews, R O’Neill, B T Willis, L Barona Mariscal (A),J R López Cortés (A), J A Monroy Adame (A)Fonterra (Middle East) E.C. [Bahrain]:M P J Bates, G M Cowan, J C Dale, M G PatelFonterra (Netherlands) B.V. [Netherlands]:G R StuartFonterra (SEA) Pte. Ltd. [Singapore]:G M Cowan, J C Dale, M J Newell, C J WilsonFonterra (Thailand) Limited [Thailand]:M J Newell, K Vunthanadit, C J WilsonFonterra (USA) Inc [United States]:J C Dale, G Hills, D B LearmonthFonterra Australia Ltd (formerly Bonlac Foods Ltd)[Australia]:J C Dale, B S Donnison, R M Kennerley, M F Parkin,G R Stuart, P L Thorn, N R Campbell (R), R J Campbell (R),K D Jackson (R), J Waldvogel (R), G R Stuart (R) (A)Fonterra Brands (Americas), Inc. (formerlyNew Zealand Milk (Caribbean), Inc) [United States]:R D Castro UrdialesFonterra Brands (Asia Holdings) Pte. Ltd (formerlyMilk Products Holdings (SEA) Pte Ltd) [Singapore]:P Pant, A R Sarker, M D Wynne (R)Fonterra Brands (Australia) Pty Ltd (formerlyBonland Dairies Pty Ltd) [Australia]:G M Cowan, K J Murray, A M Coleman (A), D K Mallinson(A), G L Beatty (R), D K Mallinson (R), D A Matthews (R)Fonterra Brands (Centram), S.A. (formerlyNew Zealand Milk (Centram) S.A.) [Panama]:J J Caceres Donis, R D Castro Urdiales, Z Looknanan-ClarkeFonterra Brands (China) Ltd [Hong Kong]:G M Cowan, A R SarkerFonterra Brands (Far East) Limited (formerlyNew Zealand Milk (Far East) Ltd) [Hong Kong]:P Pant, A R Sarker, M D Wynne (R)Fonterra Brands (Guangzhou) Ltd (formerly AnchiaMilk Products (Guangzhou) Ltd) [China]:A R Sarker, M D Wynne, A Zhi Yu, Ng L S (R)Fonterra Brands (Guatemala), S.A. (formerly NewZealand Milk (Guatemala), S.A.) [Guatemala]:J J Caceres Donis, R D Castro Urdiales, Z Looknanan-ClarkeFonterra Brands (Hong Kong) Limited (formerly NewZealand Milk (Hong Kong) Ltd) [Hong Kong]:W C W Chao, P Pant, A R Sarker, Ng L S (R),M D Wynne (R)Fonterra Brands (Malaysia) Sdn Bhd (formerly NewZealand Milk (Malaysia) Sdn Bhd) [Malaysia]:Chan T Y, G P Gomez Lackington, Lee W N, P Pant,A R Sarker, M D Wynne (R)Fonterra Brands (Mauritius Holdings) Limited(formerly New Zealand Milk Holdings (Mauritius) Ltd)[Mauritius]:J Jingree, S K Jogoo, P Pant, A R Sarker, M D Wynne (R)Fonterra Brands (Mauritius) Ltd (formerly NewZealand Milk (Mauritius) Ltd) [Mauritius]:P Ah Lim, G H Liu Man Hin, H M Liu Man Hin, A R Sarker,M D WynneFonterra Brands (Middle East) LLC (formerlyNew Zealand Milk (UAE) LLC) [United Arab Emirates]:J A Stephenson, E C Mulligan (R)Fonterra Brands (New Young) Pte. Ltd. [Singapore]:P Pant, A R Sarker, M D Wynne (R)Fonterra Brands (Singapore) Pte. Ltd (formerlyNew Zealand Milk (Singapore) Pte Ltd) [Singapore]:P Pant, A R Sarker, M D Wynne (R)Fonterra Brands (Thailand) Ltd (formerly N.Z.Milk Products (Thailand) Co., Ltd) [Thailand]:B Duangratana, A M Fitzsimmons, P Pant, CPhaonimmongkol, A R Sarker, D M W Kennedy (R),S Prarusudamkerng (R), M D Wynne (R)Fonterra Brands (Trading Singapore) Pte. Ltd(formerly New Zealand Milk (Trading Singapore)Pte Ltd) [Singapore]:P Pant, A R Sarker, M D Wynne (R)93

Statutory Information (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006Subsidiary company Directors (continued)94Fonterra Brands Australia (P&B) Pty Ltd(formerly PB Foods Ltd) [Australia]:G M Cowan, K J Murray, A M Coleman (R) (A),D K Mallinson (R) (A), G L Beatty (R), D A Pilkington (R),B S Pummell (R), N A Thomas (R)Fonterra Brands Lanka (Private) Limited (formerlyNew Zealand Milk Lanka (Private) Ltd) [Sri Lanka]:A D I De Raadt, P Pant, A R Sarker, S MAbeyagunawardena (A), M D Wynne (R), C Sri-Nammuni(R) (A)Fonterra Brands Phils. Inc (formerly New ZealandMilk Philippines, Inc) [Philippines]:A M Fitzsimmons, C M Mendoza, R A Mendoza, P Pant,R Pulido, A R Sarker, M V Del Rosario (R), C Wee (R),M D Wynne (R)Fonterra Commercial Trading (Shanghai)Company Limited [China]:G M Cowan, J C Dale, M B N Dewdney, Kwok H Y,M J NewellFonterra Foods Pty Ltd [Australia]:G M Cowan, K J Murray, A M Coleman (R) (A),D K Mallinson (R) (A), G R Stuart (R)Fonterra Holdings (Mexico), S.A. de C.V. [Mexico]:D A Matthews, B T Willis, L Barona Mariscal (A),J R López Cortés (A)Fonterra Holdings (Thailand) Limited [Thailand]:M J Newell, K Vunthanadit, C J WilsonFonterra Ingredients Australia Pty Ltd (formerlyFonterra (Australia) Pty Ltd) [Australia]:J C Dale, B M Ryan, G R StuartFonterra Investments Netherlands CoöperatieU.A. [Netherlands]:J C Dale, R M Major, K I McInteer, G L WaterhouseFonterra Investments Pty Limited [Australia]:G M Cowan, K J Murray, A M Coleman (R) (A),D K Mallinson (R) (A), G R Stuart (R)Fonterra Milk Australia Pty Ltd [Australia]:G M Cowan, J C Dale, R M Kennerley, B M RyanFonterra Servicios, S.A. de C.V. [Mexico]:G M Cowan, J C Dale, R O’Neill, B T Willis, L BaronaMariscal (A), J R López Cortés (A), J A Monroy Adame (A)Fonterra Venezuela, S.A. (formerly NZMP Venezuela,S.A.) [Venezuela]:M D Foster, M M Perez Ortiz, B T Willis, M P de Alexandre(A), O N de Massiani (A), S Guevara Camacho (A)Inversiones Dairy Enterprises S.A. [Chile]:M P Campbell, G M Cowan, J C Dale, A J Duncan,M D Wynne, S Diez (A), J P Egaña (A), C Herrera (A),L O Herrera (A), S Obach (A)Key Ingredients, Inc. [United States]:J C Dale, G Hills, D B LearmonthLa Pradera Milk Products, C.A. [Venezuela]:G M Cowan, J L Iranzo, M M Perez Ortiz, O N de Massiani(A), R Chaw (R), G R Stuart (R)Mainland Dairies Pty. Ltd. [Australia]:G M Cowan, K J Murray, A M Coleman (A), D K Mallinson(R) (A), G L Beatty (R), D A Matthews (R)Mainland Foodservice Pty Limited [Australia]:G M Cowan, K J Murray, A M Coleman (A), D K Mallinson(R) (A), G L Beatty (R), D A Matthews (R)Milk Products (New Zealand) Limited [Thailand]:J C Dale, A M Fitzsimmons, L Pakiam, G R Stuart,M D WynneMilk Products Holdings (Investments) Ltd [UnitedKingdom]:G L WaterhouseMilk Products Holdings (Middle East) EC [Bahrain]:G M Cowan, D K Knowlton, M D Wynne, G Glover (R),J R Manikkam (R)Milk Products Holdings (North America) Inc.[United States]:J C Dale, G Hills, D B LearmonthMilk Products Japan Ltd [Japan]:J C Dale, T Inagaki, R Quin, M B N Dewdney (R),M J Newell (R), J P Shaskey (R)Murrumbidgee Dairy Products Pty Ltd [Australia]:G M Cowan, K J Murray, A M Coleman (R) (A),D K Mallinson (A), G L Beatty (R), B S Donnison (R),P L Thorn (R)New Tai Milk Products Co Ltd [Taiwan]:M B N Dewdney, Kwok H Y, J Lee, C Lee, G Lee, M Lee,M J Newell, J P ShaskeyNew Young Dairy Products Co., Ltd [Taiwan]:S Y Lin, K M Lin, C C Lin, Ng L S, A R Sarker, M D WynneNew Zealand Dairy Services (Latin America) Inc.[United States]:R D Castro Urdiales

Statutory Information (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006Subsidiary company Directors (continued)New Zealand Milk (Australasia) Pty Ltd [Australia]:G M Cowan, K J Murray, A M Coleman (A), D K Mallinson(A), G L Beatty (R), D K Mallinson (R), D A Matthews (R)New Zealand Milk (Barbados) Ltd [Barbados]:R D Castro Urdiales, G R StuartNew Zealand Milk (LATAM) Ltd [Bermuda]:G M Cowan, J C DaleNew Zealand Milk Products (UK) Ltd [UnitedKingdom]:G R Sharma, G L WaterhouseNewdale Dairies (Pvt) Ltd [Sri Lanka]:A D I De Raadt, P Pant, A R Sarker,S M Abeyagunawardena (A), M D Wynne (R),C Sri-Nammuni (R) (A)NZMP (AEM) Ltd [United Kingdom]:K I McInteer, G L WaterhouseNZMP (UK) Ltd [United Kingdom]:G R Sharma, G L WaterhouseNZX Ltd [United Kingdom]:G L WaterhousePeters & Brownes Foods Pty Ltd [Australia]:G M Cowan, K J Murray, A M Coleman (A), D K Mallinson(A) (R), G L Beatty (R), A M Coleman (R), D A Pilkington(R), B S Pummell (R), N A Thomas (R)Peters Foods (WA) Pty Ltd [Australia]:G M Cowan, K J Murray, A M Coleman (A),D K Mallinson (A) (R), G L Beatty (R), A M Coleman (R),D A Pilkington (R), B S Pummell (R), N A Thomas (R)PT Fonterra Brands Indonesia (formerlyPT New Zealand Milk Indonesia) [Indonesia]:D A Ross, A R SarkerPT. Fonterra Indonesia [Indonesia]:G M Cowan, J C Dale, U Marzukoh, C J Wilson,R A Suria (R)Recombined Dairy Systems A/S [Denmark]:K I McInteer, G R Sharma, G L WaterhouseSaudi New Zealand Milk Products Company Limited[Saudi Arabia]:H Al Arnout, A M H Al Marzouki, B Greaney,P Thomsen, G Glover (R), J R Manikkam (R)Sociedad Agrícola y Lechera Praderas Australes S.A.(“Pradesur”) [Chile]:M F Gana Eguiguren, E F Rojas Bravo, J F Silva BarroilhetSociedad Procesadora de Leche Del Sur S.A. [Chile]:M P Campbell, R D Castro Urdiales, A Cussen Mackenna,J L Letelier Azzari, E A Teisaire, S Diez (A), J P Matus (A),C Perez-Cotapos (A), J R Valente Vias (A),G Varela Alfonso (A), L A J Kavanagh (R), J C Dale (R) (A),D K Knowlton (R) (A), S D O’Connor (R) (A)Sociedad Productores de Leche S.A., Soprole [Chile]:E Alcalde Irarrázaval, J J Besa de Cárcer, R D CastroUrdiales, J L Letelier Azzari, W Riesco Salvo, E A Teisaire,J R Valente Vias, E Alcalde Undurraga (A), O Ferrari (A),J P Matus (A), S Oddo Gómez (A), C Perez-Cotapos (A),G Varela Alfonso (A), A Vergara del Río (A), M P Campbell(R), L A J Kavanagh (R), J C Dale (R) (A), A J Duncan (R) (A),D K Knowlton (R) (A)Solid Fresh Food & Beverage (M) Sdn. Bhd. [Malaysia]:G P Gomez Lackington, Lee S S, Lee S C, P Pant,A R Sarker, M D Wynne (R)Solid Milk Industries Sdn. Bhd [Malaysia]:G P Gomez Lackington, P Pant, A R Sarker, Lee S S (A),Lee S C (A), M D Wynne (R)Susumas Sdn Bhd [Malaysia]:Chan T Y, G P Gomez Lackington, Lee W N, P Pant,A R Sarker, M D Wynne (R)TransContinental Distributors Ltd [Canada]:B Kipping, D B Learmonth, D TyersUnilac Australia Pty Ltd [Australia]:B S Donnison, P L ThornUnited Milk Tasmania Limited [Australia]:B S Donnison, S G Nelson, P L Thorn95

Statutory Information (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006Employee remunerationFonterra’s frameworks and process for managing performance and remuneration have been continuously improved over thepast year, building on the global review and work undertaken in 2005. We have focused on a global implementation of thenew remuneration framework supporting Fonterra’s competitiveness in the markets in which we operate.Specifically we have focused on:• Improving the alignment of our remuneration framework with our performance and other management processes;• Ensuring a globally consistent approach is implemented to establish competitive remuneration ranges in our keymarkets; and• Refreshing and updating our incentive plans to improve the alignment with our key business objectives and measures.Fonterra’s remuneration philosophy focuses on providing Fonterra’s managers with clear accountability for managing theperformance and the resulting reward and recognition of their employees, as well as the ability to differentiate reward andrecognition based on performance. Fonterra also provides its employees with the information required to know what isexpected of them in Fonterra, and to manage their performance against this.Finally, given Fonterra’s geographical spread, a balance has been established between the requirements of the local markets(including the legal frameworks) and the need to create value by applying Fonterra’s frameworks in a consistent manner.96Base remunerationIn the case of salaried staff, Fonterra operates a framework based on “total remuneration”. Fonterra pays both fixed andvariable remuneration, which is consistent with the relevant local market, whilst recognising and rewarding exceptionalperformance. Fonterra also considers other factors in its framework, including internal equity to ensure the desired behavioursof one Fonterra, flexibility and change are supported.Each year, remuneration surveys are conducted by independent remuneration consultants to measure Fonterra’s marketposition and advise on the setting of remuneration ranges and merit increase guidelines to maintain Fonterra’s marketposition consistent with the agreed policy.Annual incentive plansVariable remuneration drives Fonterra’s performance by:1. Aligning the objectives of the company to ensure collaboration and the one team approach to achieve Fonterra’s goals2. The establishment of targets which are stretch yet achievable3. Linking the levels of reward to the performance of the company, teams, and individuals.Our incentive programs act as an important communication device, signalling to employees what is most important toFonterra and how success in Fonterra is measured and rewarded.At the commencement of each operating year, a series of Key Performance Indicators (KPIs) are identified and agreed. TheseKPIs are a series of financial, operational, and qualitative measures drawn from the three-year strategic plan and the annualoperating budget.

Statutory Information (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006Annual incentive plans (continued)The actual KPIs used in the annual incentive plan include (but are not limited to):Net Profit after Tax, Available for Payout, Return on Net Assets, Working Capital Efficiency, Compliance to Operating Plans,New Product Development and People Development.For each KPI, a range of performances for payment purposes is determined, with the range defined by:• Threshold – performance less than the threshold results in no payment• Target – performance to the targeted level results in an ‘On Target’ payment• Maximum – performance to/beyond this level will result in a maximum available payment.In addition to the above business measures, Fonterra’s remuneration framework takes into account an element of individualperformance. A link with our performance management system “PERFORM” and the short-term incentive plan has beenimplemented. This link seeks to drive the right level of individual focus whilst ensuring the overall business targets are met.The primary driver of any resulting payment is therefore the business results.At the end of each operating year, performance against the KPIs is determined and independently reviewed. Anypayments made in the Short Term Incentive (STI) Plan are adopted and approved by the Appointments Remuneration andDevelopment Committee.Long term incentive planFor certain key executives, Fonterra operates a Long Term Incentive (LTI) Plan. This plan is designed to motivate, reward andretain key executives.The plan has the following features:• The plan compares Fonterra’s Total Shareholder Return (TSR) with that of 25 other external “comparator” companies,over a three year period. The comparator companies are selected on criteria for geographical spread, food and beveragecompanies, and, ingredients and consumer companies• No amount is earned if Fonterra’s ranking is less than the 50th percentile of the comparator group97• Once payments have vested (after a minimum of three years), participants have the option to exercise or defer a percentageof the amount earned• A new three year cycle commences each year.Any payments made in the LTI Plan are recommended by the Appointments Remuneration and Development Sub-Committeeand subsequently adopted and approved by the full Board of Fonterra.

Statutory Information (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006Employee remuneration analysis – amounts paid for the financial year ended 31 May 2006YEAR ENDED 31 MAY 06REMUNERATION RANGENEW ZEALAND 1 OFFSHORE 2 CESSATIONS 3 TOTAL98100,000 110,000 158 26 13 197110,001 120,000 115 56 23 194120,001 130,000 86 56 11 153130,001 140,000 49 35 13 97140,001 150,000 46 26 11 83150,001 160,000 41 37 10 88160,001 170,000 26 23 11 60170,001 180,000 19 19 5 43180,001 190,000 23 20 7 50190,001 200,000 5 13 3 21200,001 210,000 8 16 7 31210,001 220,000 13 13 8 34220,001 230,000 10 12 4 26230,001 240,000 10 7 1 18240,001 250,000 11 4 1 16250,001 260,000 9 11 3 23260,001 270,000 2 5 3 10270,001 280,000 8 4 2 14280,001 290,000 4 6 0 10290,001 300,000 5 5 2 12300,001 310,000 4 3 1 8310,001 320,000 3 7 2 12320,001 330,000 3 3 1 7330,001 340,000 0 4 1 5340,001 350,000 0 7 1 8350,001 360,000 3 5 2 10360,001 370,000 5 4 1 10370,001 380,000 2 2 2 6380,001 390,000 1 3 1 5390,001 400,000 1 1 1 3400,001 410,000 2 4 1 7410,001 420,000 2 3 1 6420,001 430,000 3 1 0 4430,001 440,000 0 1 1 2440,001 450,000 2 4 1 7450,001 460,000 1 2 1 4460,001 470,000 2 5 0 7470,001 480,000 1 1 3 5480,001 490,000 1 2 0 3490,001 500,000 1 1 2 4500,001 510,000 0 2 0 2510,001 520,000 0 1 0 1520,001 530,000 0 1 1 2530,001 540,000 0 2 1 3

Statutory Information (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006Employee remuneration analysis – amounts paid for the financial year ended 31 May 2006 (continued)YEAR ENDED 31 MAY 06REMUNERATION RANGENEW ZEALAND 1 OFFSHORE 2 CESSATIONS 3 TOTAL540,001 550,000 1 1 0 2550,001 560,000 1 0 0 1560,001 570,000 1 0 1 2570,001 580,000 2 0 0 2580,001 590,000 1 3 0 4590,001 600,000 0 2 1 3600,001 610,000 0 2 2 4610,001 620,000 0 2 0 2620,001 630,000 0 2 0 2630,001 640,000 0 2 1 3670,001 680,000 0 0 1 1690,001 700,000 1 1 0 2700,001 710,000 1 1 1 3720,001 730,000 0 0 1 1740,001 750,000 0 0 1 1750,001 760,000 0 1 0 1820,001 830,000 0 1 0 1850,001 860,000 1 0 0 1860,001 870,000 1 2 0 3870,001 880,000 1 0 0 1880,001 890,000 1 0 1 2890,001 900,000 1 0 0 1900,001 910,000 0 0 1 1950,001 960,000 1 0 0 1990,001 1,000,000 0 1 0 11,000,001 1,010,000 0 0 1 11,010,001 1,020,000 0 0 1 11,020,001 1,030,000 0 1 0 11,080,001 1,090,000 1 0 0 11,100,001 1,110,000 2 0 0 21,190,001 1,200,000 0 0 1 11,310,001 1,320,000 1 0 0 11,440,001 1,450,000 1 0 0 11,480,001 1,490,000 0 1 0 11,720,001 1,730,000 0 0 1 11,780,001 1,790,000 0 0 1 12,110,001 2,120,000 0 0 1 12,920,001 2,930,000 1 0 0 1Total 705 486 180 1,371991Includes employees employed in New Zealand solely during the current financial year.2Includes employees that were employed in an overseas operation during the current financial year. Amounts paid in foreign currency have beentranslated at an average conversion rate for the financial year.3Cessations include employees that have been terminated or retired during the financial year. The amounts paid to former employees includesalary and bonuses for the current year, prior year bonuses that have been paid in the current year (which were accrued at 31 May 2005) andtermination entitlements including those arising from employment arrangements entered into by legacy companies prior to the formationof Fonterra.

Statutory Information (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006Current credit rating statusStandard and Poor’s Rating Services and Fitch Ratings have rated the Company AA- with a rating outlook of stable. CapitalNotes which are subordinate to other Fonterra debt issued are rated A+ by Standard and Poor’s.Exchange rulings and waiversThe New Zealand Exchange Limited (NZX) has ruled that the Capital Notes do not constitute “equity securities” under itsListing Rules. This means that where Capital Notes are quoted on NZX, the Company is not required to comply with the Ruleswhich apply to an issuer of quoted equity securities.NZX has also determined that a “Minimum Holding” for Fonterra Capital Notes is Capital Notes having a face value of $5,000(rather than the $1,000 as currently provided for in Appendix 2 of the Listing Rules).ANALYSIS OF FONTERRA CO-OPERATIVE GROUP LIMITED’S CAPITAL NOTE HOLDING AS AT 14 JULY 2006FROM/TOHOLDERCOUNT %HOLDINGQUANTITY %1 – 999 9 1% 4,258 0%1,000 – 4,999 23 2% 64,693 0%5,000 – 9,999 572 48% 3,887,572 4%10,000 – 99,999 530 45% 11,604,374 11%100,000 and over 52 4% 86,958,357 85%1,186 100% 102,519,254 100%100100,000 and over – includes the holding of Fonterra Co-operative Group Ltd for the amount of 67,435,575.Fonterra Co-operative Group Limited’s Capital Notes where assigned a long term credit rating of “A+” by Standard and Poorsa Division of The McGraw-Hill Companies, Inc. on 6 March 2006.Entries in the interests register(A) Directors’ Interests in Transactions(1) General Disclosures of Interest The following general disclosures of interest were made during the year:M G BaileyShareholder of Grand Bend Ltd, The Taonui Land Co Ltd; Director and shareholder of Hawkes BayDairies (2002) Ltd; Cessation of directorship of Process Solutions Group LtdG R W FranceMember of the Governance Board of the National Research Centre for Growth & DevelopmentG W GentDirector and shareholder of Six-O-Farms Ltd, Delamm LtdG S HawkinsDirector and shareholder of Link International Group Limited; Chairman of the Liggins InstituteAdvisory Board (from 1 Jan 2006, replacing prior disclosure in respect of Liggins Institute)S J NattrassShareholder and Chairman of Global Horticulture LtdM G Townshend Director and shareholder of White Pine Dairies Ltd, Crescent Genetics Ltd; Trustee of HaurakianCharitable TrustH W van der Heyden Director of Innovation Waikato Ltd, King St Advertising Ltd, New Zealand Exchange Ltd, IndependentEgg Producers Co-op Ltd; Member of University of Waikato Management School Advisory Board;Trustee of Asia:NZJ W van der Poel Director and shareholder of Tirnanog Farm Ltd, Singletree Dairies Ltd, Dairy Desk Ltd, Castle HillStation Ltd; Director of Focal Consultants, LLC; Partner in Focal Dairies, LPJ S WilsonDirector and shareholder of Milktech Ltd(2) Specific Disclosures Nil

Statutory Information (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006(B) Securities Dealings of DirectorsThe following entries were made in the Interests Register during the year.CO-OPERATIVE SHARESHELD BYASSOCIATEDPERSONSJOINTLY HELDWITHASSOCIATEDPERSONS(1) New disclosuresDirectors disclosed the following holdings of Co-operative Shares during the year:Malcolm Bailey 1,314,226 –Earl Rattray 43,105 –John Wilson – 890,399(2) End of Season ChangesDirectors disclosed the following transactions associated with end of season adjustments:Malcolm Bailey (SRR conversion) 3,943 –Harry Bayliss – 4,376Harry Bayliss (SRR conversion) (6,505) –Greg Gent 7,917 –Greg Gent (SRR conversion) 12,878 –Stuart Nattrass 274,002 –Stuart Nattrass (142,895) –Stuart Nattrass (SRR conversion) 7,654 –Earl Rattray (SRR conversion) (6,479) 5,151Mark Townshend 2,347 –Mark Townshend (SRR conversion) 42,315 –Mark Townshend (SRR conversion) (52,976) –Henry van der Heyden 473 –Henry van der Heyden (SRR conversion) (42,532) (9,904)Jim van der Poel 197,489 35,925Jim van der Poel (SRR conversion) 11,107 1,385Jim van der Poel (SRR conversion) (64,363) –John Wilson – 10,646John Wilson (SRR conversion) (31,679) –101In all cases the allocations or surrenders relate to the 2004/05 end of season adjustments and were made on 5 July 2005in accordance with the Constitution. The value upon allocation or surrender of these securities was $4.69 per co-operativeshare. Where indicated above, conversions to or from SRRs were at a value of $4.69.

Statutory Information (continued)FONTERRA CO-OPERATIVE GROUP LIMITED FOR THE YEAR ENDED 31 MAY 2006Entries in the interests register (continued)(3) Other Trading ActivitiesG W Gent: Mr Gent acquired Jointly with Associated Persons 85,484 Co-operative Shares as at 1 June 2005as part of a farm purchase.J W van der Poel: On 1 July 2005, 163,011 Co-operative Shares jointly held with an Associated Personwere transferred to another Associated Person. On 1 March 2006 an AssociatedPerson of Mr van der Poel acquired 356,002 Co-operative Shares as part of afarm purchase.(C) Loans to DirectorsThere have been no loans to Directors.(D) Directors’ RemunerationThe Directors’ Remuneration Committee, comprising six shareholders appointed under the constitution, makesrecommendations for shareholder approval as to the level of Directors’ fees.At the Annual Meeting of Shareholders held on 11 October 2005, shareholders approved, on the recommendation of the Directors’Remuneration Committee, the following amounts of remuneration effective until the next Annual Meeting of Shareholders.102ChairmanDirectorsDiscretionary additional payments to the Chairmen of the Audit Finance & Risk Committee,Shareholder Relations Committee, Fair Value Share Review Committee and Milk Pricing WorkingGroup (except if the Chairman is the Fonterra Chairman)$225,000 p.a.$108,000 p.a.$15,000 p.a.The Board subsequently approved the payment of the discretionary additional payment, at the prevailing approved rate,to the Chairmen of the Audit Finance and Risk Committee, Shareholder Relations Committee, Fair Value Share ReviewCommittee and Milk Pricing Working Group.The Board has a policy of applying the same remuneration levels to directors appointed under clause 12.4 ofthe Constitution.In general, fees paid by subsidiary or associate companies in respect of Fonterra directors or employees serving as directorsof those companies are payable directly to Fonterra.(E) Directors’ Indemnity and InsuranceFonterra has given indemnities to, and has effected insurance for, Directors and executives of the company and its relatedcompanies, in accordance with section 162 of the Companies Act 1993, and Fonterra’s constitution, which, except forspecific matters that are expressly excluded, indemnify and insure Directors and executives against monetary losses as a resultof actions undertaken by them in the course of their duties. Among the matters specifically excluded are penalties and finesthat may be imposed for breaches of law.Separate Deeds of Indemnity have been entered into between the Company and its appointees to the Bonlac Foods Limitedboard and the boards of its Chilean subsidiaries, in respect of their roles as directors of those companies.

ContactsFonterra Corporate CentrePrivate Bag 92032AucklandNEW ZEALAND64 9 374 9000 (phone)64 9 379 8284 (fax)Fonterra Group ManufacturingP O Box 459HamiltonNEW ZEALAND64 7 839 8398 (phone)64 7 839 8118 (fax)Wellington OfficeP O Box 417WellingtonNEW ZEALAND64 4 471 8999 (phone)64 4 471 8600 (fax)Fonterra Milk SupplyPrivate Bag 92032AucklandNEW ZEALAND64 9 374 9000 (phone)64 9 379 8284 (fax)Fonterra Global TradePrivate Bag 92032AucklandNEW ZEALAND64 9 374 9000 (phone)64 9 379 8284 (fax)Fonterra IngredientsPrivate Bag 92032AucklandNEW ZEALAND64 9 374 9000 (phone)64 9 379 8284 (fax)Fonterra BrandsPrivate Bag 92032AucklandNEW ZEALAND64 9 374 9000 (phone)64 9 379 8284 (fax)Fonterra Milk SupplyContact Centre0800 65 65 68Fencepost.comPrivate Bag 92032AucklandNEW ZEALAND64 9 374 9000 (phone)64 9 300 3414 (fax)RD1P O Box 9045HamiltonNEW ZEALAND64 7 858 0600 (phone)64 7 858 0601 (fax)www.fonterra.com103Fonterra FoodservicesNew Zealand freephone 0800 650 670Australia freephone 1300 724 844

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Insight Creative Limited. Auckland. New Zealand. 09/06 FOOP004. Primary Photography – John Crawford.