Tuesday, 28 January 2014

Defining the meat sector problem

The Feds have taken an important step towards a more open-ended debate with their meat sector options paper. For a newbie like me, there is a lot of really interesting background, and while I would argue with many of the options, that is perhaps the whole point and benefit of the paper.

Before we start though, could I ask a stupid question? What is the problem we are trying to solve?

It’s obvious that the processors are hurting, but why exactly? The processors are just intermediaries between farmers and the final markets, so what exactly is stopping them from managing that role efficiently?

The Feds and others point to bad situations in the markets used by processors, on both the input and output sides.

·         Procurement competition drives up the price of inputs (stock); and
·         Something ill-defined screws them over when they sell the meat.

It seems that these two markets hold the key to solving our problems, because they control the fortunes of processors, and processors are actually the problem.

This is why procurement competition is bad: it is bad for processors. It’s certainly not bad for farmers. We are the ones holding the whip in this situation. That is why I struggle to understand reports that cite “procurement tension” as a problem.

Let us have that debate please. Farmers currently have market power over processors. Why should we give that up? While this seems a very fair question, there is also a risk that it might have been distracting us from the main opportunity, which lies in the foreign markets we serve.

Unless we (NZ) can develop a workable plan for getting more value from our customers, then all of these reform debates are doomed. We will just be squabbling over how to divide a given sized pie between farmers and processors, which is a recipe for years of bitterness and hatred.

So let us focus for a moment on the upside potential and ask: what is the barrier to it?

There seems to be a view that the output markets could be much more valuable if we had direct marketing links as close to the final consumer as possible. That sounds very plausible indeed to this economist.

If this, or something like it, is a genuine possibility, then figuring out a way to grab it seems like a strong contender for the #1 problem facing the sector.

It is notable that these high value final customers we are after want something that NZ meat farmers are not supplying: a steady flow of product.

The chilled product category is worth a good deal more than frozen meat, but obviously it requires a year-round supply. Constant product flow would also be a big help to processors because they could adjust their factory scale and keep plants operating all year.

The highly seasonal flow of animals off farms stands in very stark contrast to what our preferred customers want. The chart shows what we all know: this is (currently) a seasonal business.

NZ monthly meat & cattle slaughter numbers (Source: MPI)

Is this the opportunity for the industry? If those seasonal profiles could be flattened out and if everything was then exported as chilled product, the red meat sector “pie” might be much larger.

For this to actually be a good idea, the extra revenue will need to be enough to buy steady stream of animals from farmers. We don’t all need to supply animals every month though. Different farmers could specialise in supplying animals at different times of the year.

One thing is clear though: processors will need to offer contracts that pay enough for farmers to get this flat supply profile lined up. A different type of procurement is needed, focused on forward contracts rather than what the Feds call the “Sunday night auction”. But it is no less competitive, because farmers still have lots of options and processors still need to fill their plants.

In summary, it seems to me that the “meat industry” problem is really the processors’ problem and the solution is in their hands. They need access to higher value markets, and they probably also need a smooth flow of product from farmers. Procurement competition isn’t going away any time soon and processors should be designing forward contracts that are attractive to farmers. 

[This was a repost from today's edition of the Straight Furrow]

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