On the road to recovery

by Bryan Salvage
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Business last year was like a roller-coaster ride for many companies in the U.S. poultry industry, but an increasing number of analysts and industry insiders predict industry will continue on its steady climb towards increasing profitability in 2010. The financial achievements of some leading companies in 2009 support their optimism.

Tyson Foods’ chicken business made a significant improvement from the first to second half of fiscal 2009, said Ted Jones, Tyson’s vice president and treasurer, while speaking at the Bank of America Merrill Lynch Credit Conference in early December. Jones predicted further progress in fiscal 2010.

“Our chicken segment’s operating margin improved from -7.2 percent in the first half of fiscal 2009 to 3.5 percent in the second half,” Jones said. “We are still working to get chicken where it should be, but we’re starting the new fiscal year strong. We’re about two-thirds into our first quarter, and we’re pleased with how we’re doing.”

Tyson is starting to realize benefits from operational efficiencies, including better capacity utilization, better yields, reduced freight, improved flexibility in processing plants and cost reductions, Jones said. He added Tyson has shortened the length of its customer contracts, which allows a quicker response to input cost fluctuations.

Company analysts and insiders are further buoyed about prospects for Tyson’s chicken business now that Donnie Smith, who headed Tyson’s Poultry & Prepared Foods Group, was named president and CEO on Nov. 19.

Top executives at Pilgrim’s Pride Corp., which is now based in Greeley, Colo., reported the company emerged from bankruptcy at the end of December 2009. The debtors filed Chapter 11 petitions on Dec. 1, 2008. Company operations in Mexico and certain operations in the U.S. were not included in the filing and continue to operate as usual outside of the Chapter 11 process.

Under terms of its reorganization plan, Pilgrim’s Pride had agreed to sell 64 percent of the new common stock of the reorganized Pilgrim’s Pride to JBS U.S.A. for $800 million in cash.

“Pilgrims Pride will do very well under JBS,” predicts Gary Lohr, Lohr Associates, Greeley, Co.
“My guess is JBS is going to keep current management in place,” adds Dr. Paul Aho, president of Poultry Perspective, Storrs, Conn. “I don’t expect them to do anything dramatic immediately in the industry. They’ll be learning about the poultry industry.”

Reduced expenses and lower grain prices helped Laurel, Miss.-based Sanderson Farms Inc. return
to profitability in the fourth quarter and the full fiscal 2009 year. For the year ended Oct. 31, the company had income of $82,319,000, equal to $4.05 per share on the common stock, which compared with a loss of $43,129,000 during the previous year. Sales for the year were $1,789,508,000, up 4 percent f rom $1,723,583,000 during fiscal 2008.

“Fiscal 2009 was a successful year for Sanderson Farms with a solid performance in our fourth quarter,” said Joe Sanderson Jr. chairman and CEO. “While the overall chicken market improved during our fourth fiscal quarter compared with the same period a year ago, market conditions were less favorable than the third quarter of this fiscal year. However, we continued to benefit from lower grain prices with improved profitability over the prior year.”

“We are optimistic about [2010],” Sanderson said.

The ‘Big Picture’

Aho also thinks 2010 will be a good year for the U.S. chicken industry. “It will probably be better in the second half,” he adds.

“We believe 2010 [chicken] demand will be modestly better than 2009, primarily due to our belief that foodservice demand will at least stabilize,” adds Heather Jones, consumer/agribusiness analyst with BB&T Capital Markets, Richmond, Va. “We expect stable supply [in 2010]. Feed is the big wild card – if it remains around current levels, which seems reasonable at this time but could change, we would expect profitability to be improved from 2009.

“We believe demand will not come roaring back so it will remain a challenge,” she adds. “Feed costs will continue to be above historical averages and will be challenging. Finally, it will be very important for industry to maintain a rational supply base, which we view as likely at this time, but is probably the most crucial issue at this time given tenuous demand.” Improving foodservice demand, i.e. up year over year, could be an opportunity for industry, but that is too uncertain at this time, she concludes.

Chicken profitability in 2010 will be similar to 2009; small positive numbers similar to long-term average, predicts Lohr. “By my calculation, [it will be] about 3 cents per lb.,” he says.

Key factors playing into his predications are lower feed costs, slow growth in consumer spending on food in line with a similar recovery in the overall economy – but expect no big change in exports, he cautions.

Exports will be a “wild card,” Aho adds. “We depend on China and Russia for a good chunk of our export sales,” he says. “The trick [this] year is to keep both countries happy with us.”

But Russia is ramping up its domestic production and will decline long-term as an export market, he predicts.

Increasing competitive pressure for vertical integration or supplychain management, processor/grower contract evolution and the drive to maintain and enhance food safety will be challenges or issues for the industry in 2010, Lohr comments.

Because of biology and the way protein industries are organized, it takes a while for the beef and pork industry to adjust to a shock like a severe recession, Aho says. “That adjustment will finally arrive in 2010 and everyone seems to be predicting falling pork and beef supplies,” he adds. “The economy is bound to be better. The chicken industry is heading toward one of those periods of higher profitability the poultry industry has every once in a while.”

It doesn’t look like the new level of grain prices is going to go down to what the U.S. enjoyed before 2006, Aho says. “With those higher grain prices, the feed conversion of chicken becomes a competitive advantage over other meats,” he adds. “When everything settles down from the shocks we had with the recession, competing meats are going to end up being a lot higher in price and we’ll see some increased demand for chicken going forward.”

Talking turkey

Turkey industry profitability will be much better than in recent years, Lohr predicts. “[It] should be positive with all of the gains in the second half of the year,” he adds. Key factors behind his prediction are similar to chicken industry predictions, in addition to issues of being competitive in export markets due to lack of economic availability after the last two years of production cutbacks. Things are starting to look up for the turkey industry, agrees Dr. Thomas Elam, president, FarmEcon LLC, Carmel, Ind. “I base that on the incredible disappearance we had over Thanksgiving, which has taken our freezer stocks down to fairly manageable levels – combined with the fact at least through March or April of next year, turkey production is going to be well under 2008 levels and even under 2009 levels. The balance of bargaining power is definitely swinging away from the buyers and toward the sellers.”

Feed costs, although better, will remain a challenge. “We’re still looking at feed costs that are about double on a per-pound, ready-to-cook basis of what they were in 2005,” E la m says. “And this industry and every other protein producer in this country is still trying to adjust to those higher costs. Gradually, the [turkey industry is] righting the ship by cutting production and charging customers more for products.

“We will eventually get this ship righted, but it’s going to be a smaller business than it was two or three years ago,” he adds. “It’s going to be profitable again, but it’s going to be at lower production levels.” This year should be a reasonably good year for Butterball LLC and the turkey industry, in general, says Kerry Doughty, executive vice president of sales and marketing. “I anticipate a slow recovery for animal agriculture with factors such as feed costs and general consumer economic conditions being key,” he adds. “The economic climate over the past 18 months has really impacted consumer behaviors. We have seen consumers tightening their belts with fewer meals eaten outside the home and more awareness on the part of the consumer for the costs of their food.”

The media has influenced perceptions on food safety, H1N1, animal welfare and locally-grown, which are playing a part in consumer choices, he adds. “We are aware of the importance of maintaining consumer confidence in our brand,” Doughty continues. “We do this through staying vigilant with regards to the safety of our products, our employees and our animals. Programs are in place within our company for internal verification, as well as extensive verification conducted through various federal government agencies, such as OSHA, USDA, FDA and EPA. We continuously communicate with our consumers and customers regarding our efforts in these areas in order to continue the longstanding tradition of trust associated with the Butterball brand.”

Butterball’s challenges for 2010 are similar to all of animal agriculture – keeping input costs low, increasing market share and meeting consumer expectations with safe, innovative new products, Doughty says. “Input costs, particularly for feed, soared in 2008 with competition for corn, a major component of turkey feed, between ethanol refiners and our feed mills,” he adds. “This increased our production costs more than $250 million between 2006 and 2008. When we look at increased cost and the large volume of meat and poultry in the marketplace. we need to be sure we do not repeat that very painful year. Our challenges are all about low input costs and keeping supply under control while increasing demand.”

One major opportunity for Butterball is continued expansion beyond the traditional Butterball holiday turkey to every-day turkey products that are convenient, healthy and great-tasting, Doughty says. “We can solve ‘what’s for breakfast, lunch and dinner’ with Every Day Butterball products in all of our sales channels; retail, food service and international.

Butterball is focused on the best ways to make the dining experience better for everyone, he says. “We have done this through product innovation, the creation of new menu concepts, health and nutrition call outs and outstanding customer service,” he concludes.

Ken Rutledge, president and CEO of Dakota Provisions, Huron, S.D. says, “2010 should be a good year for our company. Dakota Provisions has contracts in place which utilize a significant portion of our ready-to-eat production line time for the year. Industry production restraints should continue to keep demand ahead of supply.”

 
Dakota Provisions has grand plans in place for 2010 based on its estimates , but unforeseen events could derail industry plans in 2010, Rutledge cautions. “Examples include the avian flu, government
regulatory impact , the U.S. and world economic situation and feed ingredient costs, among other things,” he says.

It looks like the turkey industry has taken supply-and-demand balance into very serious consideration in 2010, he continues. “If this continues, the industry could see extremely attractive markets for the year,” he predicts.

Moving forward

As the U.S. poultry industry sees increased profitability, Pilgrim’s Pride will be returning production to earlier levels...just like Sanderson Farms said it would in a recent conference call and just as Tyson Foods will, Aho says, looking ahead. “The companies that have cut back and are running at less than full capacity right now will be pushing production back up to full capacity as we see better profitability [this] year,” he adds.

Late in November, Fitch Ratings said it believed chicken has benefited from consumer substitution away from higher-priced beef and pork during the economic downturn. However, it warned preference toward chicken could lessen, at least temporarily, if supply reductions by hog producers result in excess pork and lower prices of pork products at retail.

Declining retail prices for pork could put downward pressure on selling prices for both chicken and beef if consumers gravitate toward lower-priced proteins.

In general, consumer prices for proteins are not expected to increase significantly in 2010. As of Oct. 23, 2009, the U.S. Dept. of Agriculture’s consumer price index, which measures consumer inflation, forecasted retail price increases of 1 percent to 2 percent for poultry in 2010.

Fitch believes the risk of chicken overproduction and continued excess hog supply, which negatively impacts prices, will be a big concern for the protein industry in 2010. Pilgrim’s Pride Corp. emerged from bankruptcy late last year, and expectations that the global economy will continue to recover could encourage chicken producers to increase supply, Fitch concluded.

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