Pork producers have worried about it. The National Pork Producers Council (NPPC) published a 142-page book about it in 1995. Lenders nudged producers toward packer contracts because of their concerns about it.
But in 1998 it - market access - became a reality.
"Sorry, we've filled our kill. Sure, we'll buy them, bring them to the plant in two weeks. The bid? $8/cwt."
No matter how the message was conveyed, it came through loud and clear. There's not enough shackle space for the record number of hogs in the chain.
Pork producers everywhere are now clamoring for more slaughter capacity. The bad news, Iowa State ag economist John Lawrence says, is it's unlikely they'll find it. "The question producers should be asking is which packer is going to close next, not which is going to expand," says Lawrence.
Farmland Industries' vice-president of pork production, Wayne Snyder, sees the issue from a unique view as Farmland has ties to both producing and packing.
"We had production exceeding capacity," says Snyder. "We saw some capacity shut down (see Table 1). We saw the elimination of expectations for exports. To some lesser degree, we had the importing of live hogs. With this all happening simultaneously, we created an environment where the normal market forces were put to such an extreme test - because of that market access issue - that we saw a breakdown of the traditional pricing situation," says Snyder.
Snyder wonders now if the traditional self-correction mechanisms in the market - increased sow slaughter, fewer gilt retentions and the resulting reduction in farrowings - will work this time. "The macro-perspective is still one that says, as an industry, packing plants have age. As an industry, we have packing plants that have high cost. And, as an industry, we have a history of earnings for that piece of our business that doesn't warrant new investment," says Snyder.
His bottom line? We'll have less capacity, not more.
Compounding the problem, not only is the number of shackle spaces shrinking, those available may already be spoken for. Glenn Grimes, University of Missouri ag economist, completed a NPPC-supported survey of marketing contracts. His data shows two out of three hogs sold were on some type of contract. (See story on page 16.) That remaining third, the spot market, could be left out in the cold if capacity shrinks further.
Packers & Stockyards Limitations The reality of more packer-owned hogs, more packer-producer contracts, a shrinking slaughter capacity and what it will mean, has many producers calling for the government to step in. The USDA's Grain Inspection, Packers and Stockyards Administration (GIPSA) is the lead agency in dealing with these issues. Jay Johnson, regional supervisor for the GIPSA Des Moines office, explains they have started an investigation of all aspects of contracts and marketing agreements.
"We're looking at the level to which they're used, their terms and conditions, whether or not they have an adverse effect on prices and competition in the spot market, and any other competitive issues that arise," says Johnson.
But, Johnson cautions, don't expect GIPSA to be a cure-all. "A lot of producers think all ills can be solved by packers and stockyards. Some even think our authority allows us to limit hogs coming from Canada. The perception is that the Packers and Stockyards Act is going unenforced."
Johnson and his staff are trying to tell people what they can and can't do. "You can read Section 202 of the Packers and Stockyards Act however you want," he continues. "But understand that since 1921 there has been no shortage of courts that have rendered decisions on it. So we are constrained by the legal precedent that has been set."
Johnson acknowledges that Section 202 of the Act says it should be unlawful for any packer to engage in any unfair, unjustly discriminatory practice.
"Discrimination means somebody else is getting more money than you," says Johnson. "That, in and by itself, is all right if it's economically justified. It's certainly much to the displeasure of producers that there is an economic justification for paying a premium for larger volumes, say 200 vs. 20 head."
Johnson thinks that market access via contracts may be an issue his office can tackle. "You don't have to offer the same deal to everybody because you don't want all your livestock tied up into one type of deal," he says. "But we're saying if you're going to buy 100,000 of your pigs under this type of contract, maybe you need to make that contract available under equal terms to everyone. Even if that means you have a lottery or something so that the first people who can meet the terms of that contract have access to it."
But don't expect packers to offer more contracts any time in the near future. NPPC economist Steve Meyer points to IBP as an example. Meyer says IBP was probably the least aggressive of the midwestern packers at offering contracts. As a result, "They ended up being the big winner in this hog market again," Meyer says. "IBP won big by being behind the times."
Yet, Meyer still thinks Hormel Foods, which has aggressively contracted its kill needs with producers by locking in upwards of 50% into seven-year or longer deals, is better off long term.
"Hormel is the one that's in the real catbirds' seat. They've got supplies, and pretty low cost supplies, locked in because of the ledger contracts. IBP can not say that. They're going to have to pay full market price for everything they buy, or at least far more than Hormel, on the open market," Meyer comments.
Of course, some of the new capacity that has gone up in recent years has been done with the idea that vertical integration will make the plant profitable. Premium Standard Farms and Seaboard both worked off that model in their start-ups. Smithfield with their purchase of Carroll's Foods (see page 33) certainly has taken a huge step in that direction.
Smithfield built a supply network for its East Coast facilities primarily with the use of marketing agreements, tying prices to formulas based off of the traditionally more open Iowa markets.
The agreements have allowed Smithfield to know exactly how many hogs to expect, what genetics and what weights. With that information in hand, a packer has some better tools to use in working with retailers on long term agreements for branded label products.
This North Carolina model has some flaws though, according to Walt Cherry, North Carolina Pork Council executive director. There is no open market for price discovery. Cherry says checkoff data indicates that five years ago North Carolina producers were getting about $5 more/head than the national average. But in 1998, North Carolina hogs were $7/head under the national average.
Price Discovery - The Real Issue Walt Hackney, Hackney Ag Associates, Omaha, NE, works at group marketing producers' hogs to get a better price. He understands the independent producer's concern about access to packers, but says the price discovery issue accompanying the shrinking spot market sales is of greater concern today. Hackney says the average producer has no conception of how the price for his pigs was determined. "It's a figure quoted to him by USDA or on DTN or by his local packer. Our concern is how are we going to insure our clients that they have the highest, most accurate degree of base price discovery out there, he says.
Hackney maintains that the basic bible of hog prices, the Iowa plant delivered top, always has been reliable, but is losing its credibility as more and more hogs are contracted. "We always trusted that price in the past. It allowed the packer to negotiate a deal with you on your pigs on a carcass merit program of $2.50/cwt. over the Iowa interior top. That would be your base price. Then, the matrix would kick in and you would get all the added value and you felt good about that," says Hackney.
As of the end of February, though, Hackney was planning to abandon that market as a reliable tool for price discovery. "It's our opinion, it's not an identifiable thing. There isn't research that's going to show it, but common sense tells you the packers are abnormally, unnecessarily, fictitiously lowering the quotable cash," says Hackney.
He believes the level of contracting is directly responsible for this. Hackney now relies more on what he sees in his own sales data and at the cut-out value of the carcass as they bargain with packers.