February 21, 2018
Russia's swine sector and the limits of import substitution
2018's pork consumption is lower than it was in 2013 but pork production has increased by 25% in five years. While this strategy is not sustainable, a new value-added chapter is just beginning.
By Eric J. Brooks
An eFeedLink Hot Topic
Accounting for about 35% of Russian meat output, Russia's pork production is having a landmark year of sorts. After 3.1% growth (to 2.96 million tonnes) in 2017, output is rising another 1.4% to total 3.0 million tonnes in 2018. By doing so, it will finally exceed its peak USDA estimated 1990 output of 2.96 million tonnes for the first time since the end of the Cold War, back in 1990.
Just like that of other meat lines, Russian swine is a story of a steep post-1990s production decline and import flood, followed by an import-substitution driven recovery. Since bottoming out in the 1.25 to 1.35 million tonne range during the years 1998 through 2001, Russia's pork output has done a remarkable job of defying three serious recessions, growing at a remarkably near constant 5% rate over the past 17 years.
The amount of pork eaten by the average Russian has also come full circle: From 23kg in 1990 to 11.6kg in 2000, rebounding to 20.6kg in 2010 and 22.6kg this year.
The steady growth occurred even though Russia's pork consumption fell sharply three times over two decades, including an exceptionally steep 8.1% drop from 2013 through 2015. The reason for the solid steady expansion -and more recent output slowdown is the same: In the early 1990s when Russia liberalized meat imports, pork production fell far more rapidly than consumption.
With imported pork accounting for a third of consumption in 2003, Vladimir Putin instituted a no-nonsense, protectionist import substitution policy in the early 2000s. With Russian consumer incomes rapidly rising, output was able to grow at a steady 4.9% pace by gradually pushing out pork imports -but even so, consumption grew an even faster 5.3%. In the early to late 2000s boom years, consumption outraced production, such that imports peaked in the 900,000 to 1.1 million tonne range in the years 2007 through 2012 inclusive.
Thereafter, recessionary conditions made pork consumption's growth rate level out. After growing at a 5.3% annual rate from 2001 through 2010, Russia's pork consumption has risen at a much slower 1.5% yearly rate in eight years since 2010. After 2014, Russia's pork import regulations were made tighter. Pork imports from North America, the EU, Ukraine and Australia were banned outright while those from Brazil suffered temporary bans.
Even though consumption growth is clearly flattening out, the substitution of locally produced pork in place of imports allowed pork production to keep growing rapidly. From a 1.07 million tonne peak in 2012, imports have fallen 67%, to a USDA estimated 300,000 tonnes this year. From a peak 39% of consumption in 2008, imports accounted for 10% of pork demand in 2017 and are projected at 9% in 2018.
The good news for Russian swine producers is that they now solidly own their own domestic market. The bad news is that by the early 2020s, they will no longer be able to maintain their 5% annual growth rate by pushing out imports. Indeed, the industry is already showing the classic symptom of maturity and slower growth: consolidation.
Partly due to low prices and aided by a coincident outbreak of African Swine Fever (ASF), inventories grew at a below-trend 2.1% in 2017 and are projected to rise by 1.6% (to 22.7 million head) in 2018. The past decade has seen rapid growth in integrator farm inventories and much slower growth in the hog population of backyard farms. 2016 saw wholesale pork prices fall by nearly 10%.
With prices down by a tenth, integrators still found it profitable to expand production but smaller farms suffered massive losses.
The latest USDA GAIN report on Russian livestock notes that "Antiquated independent farms and processing plants continue to struggle, but vertically integrated industry leaders are reporting improved margins from pork sales." With inventory losses of the latter offsetting the gains of the former, overall pork production is now growing more slowly than before.
Consolidation is occurring not just horizontally by size and scale but also vertically and geography. The Central Federal District (CFD), an irregular shaped 150 to 250-kilometer zone around Moscow boasts fertile soil suitable for cultivating feed crop, the best transport infrastructure in the country, a large supply of qualified workers, proximity to Russia's largest consumer market and better access to both domestic and foreign agricultural financing.
In particular, the last two years has seen producers leverage their access to capital to finance the addition of new vertical components to both ends of their existing supply chains. There has been a great deal of investment in feed crop growing land, both inside and outside the CFD. This has been accompanied by the opening of new integrated facilities and the capacity expansion of existing hog growing operations.
At the supply chain's other end, there has a been a recent opening of new, in-house hog slaughtering and pork processing facilities. This has reduced the supply of hogs available for independent slaughterhouses. Consequently, pork processing is being forced to walk along the same consolidation pathway as hog farming operations.
The trend towards in-house slaughtering has coincided with new investments in a variety of meat processing facilities, ranging from standard cutting and deboning of various pork cuts to the manufacturing of ready-to-eat meals, sales of standardized parts to fast food restaurants and leather manufacturing.
To further extend the marketing reach of these new initiatives, the centralization of hog slaughter and pork production has coincided with the opening of new cold storage facilities in remote Russian regions. According to the USDA, the net result of such investments in downstream processing has been "Reduced sales of live swine, while increasing sales of pork cuts, and has also introduced other value-added processed products under new brands."
This consolidation process however, has a long way to go: The top five Russian pork producers only account for 30% of live hog production, and only one has a market share in excess of 5%. While much restructuring lies ahead, the speed and pain that will accompany the process very much depend on Russia's troubled macroeconomic fundamentals.
From 2000 to 2012, pork output expanded 5% annually on the back of Russia's booming, oil-powered economy, which had one of the world's fastest GDP growth rates. Since 2008 however, Russia has suffered two exceptionally severe recessions, and has taken 3 years to climb out of the latest one. Production could not keep up with demand before 2010, but has grown three times faster than consumption for the last eight years.
2018's pork consumption is no higher than it was in 2013 but pork production has increased by 25% in six years. How was this accomplished? That was made possible by ten years of steadily substituting domestic Russian pork in place of imports.
However, if pork production grows at its average 5% rate for another two years, there will be literally no imported pork left to 'squeeze out' of Russia's protected market. With zero population growth, Russian pork's future will depend on per capita consumption.
At under 23kg, Russians eat as much pork per person as Americans but slightly over half as much as Germans or Chinese. There remains considerable room to expand pork production further but that will require a new period of steady, sustained economic growth.
The good news is that with oil prices finally rebounding, Russia's economy is poised to enter a new spell of badly needed growth. The economy will not boom as it did in the early 2000s but its growth should keep Russia's pork consumption -and swine sector- growing at a steady 2% to 3% rate throughout the 2020s.
It will be a brutal time for small producers but for integrators, the increasing sophistication of Russian consumers will be beneficial. While pork production volumes will grow more slowly than before, their ongoing shift to value-added segments such as processed pork, ready-to-eat meals or supplying fast food chains means that their revenues can grow as quickly as before.
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