CME: Packing Sector Important to Future of Industry

6 March 2012, at 2:34pm

US - While the pork and beef packing sectors perform the same basic functions, they are headed in different directions at the moment and their paths may be very important to the future health of their industries, write Steve Meyer and Len Steiner.

The charts below show our calculations of gross packer margins in both sectors. Note, as always, that these are indeed gross margins in that they measure only total revenue (average carcass revenue plus by-product revenue) less the cost of the animal. Packers must still pay for plant costs, labor, utilities, transportation, packaging, etc. before they arrive at a net profit figure. As can be seen, packers in both sectors are working with FAR less gross profits than one year ago.

The situation in the beef business is particularly bad given overcapacity in the beef packing sector and the decline in the number of market-ready cattle that will almost certainly last through 2013. Even GROSS margins dipped into negative territory in January and have been below $75/head since the second week of 2012. Note that the week of February 20 is the last observation in the top chart since we use weekly grading percentages to compute a weightedaverage cutout for this series. Some observers estimate other beef packing costs at about $200/head. If accurate, those would put packers over $100/head in the red for most weeks since October. Tyson announced last week that the ongoing renovation of its Dakota City, Nebraska plant may result in the closure of its Denison, Iowa plant. The Dakota City remodeling will not result in higher slaughter capacity so the Denison closure would be a net reduction of an estimated 2150 head per day to the sector. And there may be more. CattleFax CEO Randy Blach told attendees at the recent AMI/ FMI Meat Conference that the reduction in cattle numbers into 2013 would be large enough to shutter two 4,000 head per day plants or one 4,000-head plant and four smaller ones.

The Denison plant has long been considered vulnerable due to its small size and the long-term downtrend of cattle numbers in Iowa. Iowa numbers have increased but apparently not enough to insure Denison’s survival. The plant holds an important historical position in that it was the first Iowa Beef Processors plant and, as such, really began the boxed beef revolution when it opened in 1961. The situation for pork packers is completely different.

While margins in that business are lower than last year, that fact is mainly a function of superb margins one year ago. Note that this year’s margins have been very close to the 5-year average. Hog supplies have not been tight enough (they are up 0.6% year-to-date) for packers to have been chasing supplies but maintaining supplier and customer relationships is still an important factor, especially as hog numbers take their normal downtrend into summer lows.

In addition, this is a sector that will almost certainly need more capacity over the next few years. Paragon Economics’ April 2011 survey of packers put daily capacity at 436,030 head. Rantoul Foods has re-opened the former Meadowbrook plant in Rantoul, IL since then, adding about 3,500 per day to that number. That increase would allow 2.373 million head to be processed in a 5.4 day workweek. It is our experience that the industry can run at that rate rather comfortably since some plants operate on Saturdays almost every week. Anything over 5.4 days/week usually results in higher margins as packers can buy hogs at much lower prices.

The challenge is that hog numbers are growing and there is little slaughter expansion in sight. USDA’s December Hogs and Pigs report indicated Q4 2012 supplies would be slightly larger than those of last fall. New sows are being put in production in Texas and the Midwest with the total likely reaching 60,000 or more by the end of the year. Productivity is still rising. We would not be surprised to see 1-2% more sows weaning 1-2% larger litters by year’s end. That would put 2-4% more pigs on the market in late 2013. Triumph Foods still plans to build another plant in East Moline but nothing is in progress. There are a few plants (5, perhaps) that could add second shifts but those changes would require major upgrades that could not be on line by late 2013. Things could get very tight indeed.