Cavan-based Lakeland Dairies has acquired neighbouring co-op Fane Valley's dairy business for an undisclosed sum.

The move will allow Lakelands process up to 1.1 billion litres of milk a year, equivalent to a fifth of the State’s entire output.

It will also make Lakelands the third biggest Irish processor behind Glanbia and Dairygold.

Lakeland and Fane Valley, which is based in Banbridge, Co Down, announced on Tuesday that final agreement on a deal structure had been reached.

Last year the co-ops unveiled plans for a joint venture, but this appears to have been jettisoned in favour of a simple acquisition deal.

Under the original plan, Lakelands would have managed both dairy businesses with Fane Valley overseeing the two agribusiness divisions.

"In the end, it was evident that some of the complexities involved in establishing and operating a cross-border joint venture of this nature were going to detract from the key strategic purpose of the merger and the ability to fully realise all commercial synergies," Trevor Lockhart, chief executive of Fane Valley said.

“Fane Valley and Lakeland Dairies are absolutely convinced that the interests of their respective milk suppliers will be better served in a combined business which can deliver greater economies of scale and enhanced market capability,” he added.

Lakelands is targetting a 40 per cent increase in milk output following the lifting of EU quotas.

It manufactures 107,000 tonnes milk powers a year but this will increase to 150,000 tonnes when a new milk dryer at its Bailieborough base in Co Cavan comes on stream later this year.

Lakelands chief executive Michael Hanley said: "The agreement we have reached with our neighbouring co-operative, Fane Valley, represents a major step forward for the industry and for Lakeland Dairies, albeit not via the structure initially envisaged."

“The current market environment is undoubtedly challenging both for producers and processors. However we have a strong ambition, in Lakeland, to further strengthen our position in global markets as a leading provider of high quality foodservice products and dairy food ingredients,” he said.

Fane Valley Dairies is one of Ireland’s leading manufacturers of whole and skimmed milk powders with an annual production capacity in excess of 30,000 tonnes.