Comment: Common sense and willingness to compromise needed

Allan BarberAll the predictions of imminent doom for the red meat sector suggest it is a basket case with little hope of redemption. Dairy gets all the favourable headlines and this is fully deserved in the light of its performance since the early years of this century. But it ignores the meat industry’s $8 billion contribution to exports and the substantial farm profitability improvement over the same period, especially taking Beef + Lamb NZ’s improved prediction for this season, writes Allan Barber

It is not entirely a perception problem, caused by the industry’s competitive nature in contrast to dairy’s co-operative model, because the facts indicate quite a bit of truth in the relative success of this country’s two largest productive sectors. But constant talk of procurement wars, weak selling, declining livestock volumes and over capacity paints a far worse picture than is justified.

The commercial nature of the meat industry dictates its ownership structure and, unless all the processors are struck by a conversion of similar proportions to Saint Paul, it will remain so. The only possible structural outcomes are sale, merger, receivership or voluntary plant closure; although none of the first three necessarily means a closure of capacity, it is theoretically feasible under all scenarios.

I have recently had a discussion with a senior meat company executive who holds the view the industry is caught in a commodity trap where all the companies focus on their own survival, instead of developing partnerships with suppliers to produce and market high quality products targeted at the richest global consumers. These consumers are small in number and must be marketed to accordingly.

In spite of its profit performance, he is also convinced the dairy industry is caught in the same commodity trap. The high ratio of whole milk powder to value-added products makes it hard to disagree with this view. It’s just the price the world is willing to pay for this particular commodity which, for the time being at least, exceeds the average red meat price by a big margin.

Identifying the solution to this problem is where it gets tricky. Meat Industry Excellence wants to arrange an industry summit to be attended by all industry participants who would contribute to a broad agreement on the way forward, encouraged by the Minister for Primary Industries. This would result, ideally, in a merger of the two co-operatives as a starting point for capacity rationalisation.

A group of the largest meat companies is keen on introducing a system of tradeable slaughter rights (TSR) based on allocating 100 percent of the forecast annual kill to companies based on their three year rolling average quota share. Lastly, another group of mostly the smaller companies prefers an over-allocation of TSRs which would reduce to a base figure still in excess of 100 percent over a period of several years.

Unfortunately, none of these alternatives will achieve general agreement without compromise. The desired merger of Silver Fern Farms and Alliance still appears to be as far away as ever and it is hard to see anything coming out of a summit because of the wide divergence of opinions and positions.

An advantage of a fixed TSR allocation based on market share would be its inclusion as an asset which would strengthen balance sheets to the advantage of companies with less healthy debt levels. This would not please all companies. The variable TSR allocation model based on up to 150 percent would be insufficiently robust to be used to bolster the balance sheet.

If the fishing industry is used to provide a comparison, Sanford Fisheries assess their allocated fishing quotas for impairment using a discounted cashflow model based on their value in use.

There is some debate about whether the red meat sector’s main issue is an excess of processing capacity or inadequate profitability, although these may well be just two sides of the same coin. However, the major cause of overcapacity is undeniably the banks’ willingness to extend more and more debt funding facilities, leading inevitably to procurement battles and lower profitability.

In the end, there is no solution except to restrict debt levels and constrain the addition of unnecessary capacity. Controlled rationalisation by means of planned closures is less painful and more sustainable than receiverships, and this is less likely to provoke outside investment by an overseas buyer with deep pockets. Some agreed version of TSRs is likely to be the most acceptable means of achieving this.

There is also debate about how likely overseas investment is in an industry with a relative lack of profitability. Companies like JBS which were sniffing around a few years ago no longer appear to be in the market for New Zealand meat processing assets, although this can always change. Asian buyers might potentially enter the market, although their interest has so far been restricted to dairy.

Therefore, as usual there is no easy answer to a problem which has been around for more than thirty years, but compromise by meat companies assisted by some common sense on the part of the banks would go a long way towards finding a more sustainable industry model.

Allan Barber is a meat industry commentator. This piece has also appeared in NZ Farmers Weekly. He has his own blog Barber’s Meaty Issues and can be contacted by emailing him at allan@barberstrategic.co.nz.

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