November 22, 2013
Changes and transformations in Asia's -and the world's- feed to meat supply chain
The tug-of-war between feed and livestock is again favouring the supply chain's meat making side, and Asia is developing an appetite for red meat.
by Eric J. BROOKS
An eFeedLink Exclusive Commentary
Global agribusiness is currently in one of the most tumultuous, yet transformative eras of its modern history. Essentially, much like electronics or car making, feed-and-livestock is now a transnational business where a handful of countries supplies the rest of the world -and where inputs are sourced on one side of the world, transported to the other side, with the finished product sometimes exported back to the feed's region of origin.
Just like globalised manufacturing
At one time, manufacturing was notorious for its transnational supply chains. Iron ore for example, would be exported from Australia, refined into steel in Japan and thereafter get re-exported as cars around the world, including some back to Australia.
Today, thanks to the fast growth in Asian meat demand, the feed-to-meat supply chain can span as many countries as that of Japanese automobiles. In some cases, sell processed meat or fish to the country which supplied the initial feed inputs.
For example, corn grown in the United States, soy grown in Brazil and fishmeal caught off Peru can all be exported to Thailand, where integrated broiler and fish farms convert them into edible protein. After slaughter, the processed meat and seafood are pre-cooked into frozen chicken meals which are thereafter exported to over 50 countries, ranging from Japan to America and in some cases, Brazil and Peru.
This was not always the case. Feed and livestock was once an almost exclusively regional enterprise. Moreover, during the postwar era spanning from the 1950s to the early 1990s, crop yields stayed ahead of meat demand. Though the wealthier parts of East Asia started running out of arable land as early as the 1960s, with the exception of a mid 1970s feed price outburst, meat prices kept pace or stayed ahead of feed costs. These coincident trends kept returns to meat constant, even though corn and soy farmers suffered when acreages and yields overtook feed demand in the 1980s.
The trend of steadily growing markets continued but hit an important inflection point in the early 1990s. At that time, China started mass imports of soy -a development that would put a fire under feed costs in years to come. At the same time, Europe joined Japan and South Korea realised it was more cost-effective to import broiler meat and sea food from places such as Brazil or Thailand than to grow it themselves.
Thailand & New Zealand, chicken & milk go transnational
Although America and Brazil used their massive advantage in feed supplies to become major broiler exporters, Thailand found it too, could do the same. This unexpected Asian meat exporting power essentially offset its relative scarcity of feed supplies with labour costs that undercut those found in America or Brazil. And with the Thai model exporting to the west and the likes of Cargill importing US soy into China for the purpose of creating chicken McNuggets, agribusiness became as transnational as the steel-to-automobile supply chain, with inputs sourced in one country, manufactured into meaningful protein in another, and exported globally from there.
On the back of rising demand everywhere from Europe to Japan, poultry exports took off first, giving this industry higher returns than pork from the early 1990s onwards and making it the first widely traded meat in the early 1990s. Beef by comparison was beset by inferior feed conversion ratios, saturation level per capita consumption in many western countries, and a high price that discouraged its consumption by all but the wealthiest developing country consumers. Pork by comparison, occupied an intermediate position between chicken and beef on the world meat export market.
A similar story was played out in the dairy sector, for three entirely different reasons. First in Southeast Asia during the 1990s and later in China from 2000 onwards, milk's consumption among school children was given government encouragement. With their low arable land areas and high population densities, from Philippines to Vietnam, Southeast Asian milk demand soon exceeded the raw inputs these countries had available for dairy cattle.
Second, from the late 1980s onward in Southeast Asia and even more so in China after 2000, Asia's rapidly expanding fast food consumption, be it cheese burgers or cheese-topped pizzas, boosted dairy consumption among adults as rapidly as official encouragement of milk consumption did among children.
Third, a succession of milk safety scandals in China (of which the 2008 melamine scandal is merely the most publicized) made that country's consumers demand a much higher proportion of milk products of foreign origin than would have otherwise have been the case.
Consequently, from the 1990s onwards, as America, Brazil and Thailand became the meat export markets suppliers of choice, Australia and New Zealand similar export niches with fast growing world dairy exports.
All this makes sense in the larger scheme of things, as it is merely more cost-effective for regions with large endowments of arable land and low population densities to export feed and meat to regions that have large populations but lack the physical resources to meet their demand for protein. Particularly as most of the world's rise in meat demand is concentrated in regions with large populations and scarce land resources.
2005-2012: Profits move from meat to feed sector
Although all these trends continued after the year 2000, the feed-to-meat supply chain thereafter came under increasing pressure, particularly from its feed foundation. Although internationally traded meat grew much faster than either the world economy or the overall agribusiness sector, after 2005, feed costs increased much faster than meat prices
This undermined the profitability of many livestock growers and their upstream, integrated meat processing operations. The resulting transfer of profits from the meat to feed crop end of the supply chain has its roots in America and China.
In Asia, with China's personal incomes skyrocketing, per capita consumption rose from just under 8kg in 1980 to 33kg in 2000 and approximately 38kg today. It forced China's soy imports to rise from 155,000 thousand tonnes in 1994-95 marketing year to 13.2 million tonnes in 1999-2000, 52.3 million tonnes in 2010-11 and a USDA estimated 69 million tonnes in the 2013-13 marketing year.
To put it another way: From 1994-95 marketing year to 2012-13, combined American, Brazilian, Argentine and Paraguayan soy exports rose by 60.6 million tonnes -Over this same period, China's soy import volume increased 59.7 million tonnes.-That leaves only 1.9 million tonnes in additional soy exports for the other 100 plus countries in the world that import soy to cover nearly 20 years of growth in population, disposable incomes and meat consumption. No wonder that by the late 2000s, CBOT soy futures were setting new price records.
On the feed grain side, America's decision to mandate a minimal proportion of vehicle fuel to be comprised of ethanol created a feed grain shortage where one never before existed: From under 5% of its corn crop being fermented in the 1990s, by 2011, over 130 million tonnes or 40% of its corn harvest had been removed from the agribusiness sector and given over to ethanol fermentation.
With world corn exports never exceeding 117 million tonnes, the over 100 million tonnes of corn lost to ethanol production annually, the US corn stocks-to-use ratio plummeted. Ranging between 20% and 50% for most of the 20th century, the last decade has seen several marketing years with America's stock-to-use ratio stuck in the 5% to 10% range. With America traditionally supplying the lion's share of corn exports, that is literally the difference between corn above US$7/bushel and corn below US$3/bushel.
As a result, both corn and soy set new price records, first in 2008 and again in 2012. In the intervening years, a recession temporarily brought feed costs down but not by enough to restore the meat and livestock sector's former profitability -or to bring corn and soy back to price levels once taken for granted.
However, these stresses, great as they were, did not stop Asia's meat demand from rising, or its demand for meat imports from growing. The USDA reports that from 2003 to 2013, total world beef, chicken and pork export volumes rose 40%, with pork, chicken and seafood exports up by 60% or more over this same time. Going forward, it expects East Asia to drive pork export growth while Indonesia and the Middle East North Africa (MENA) region drive the consumption of broiler meat exports.
But while export growth was impressive in volume and value terms, with feed costs rising, returns suffered in inverse proportion to feed conversion efficiency. The accompanying graph divides the ratio of various livestock prices by the cost of corn, then subdivides it further by each livestock line's feed conversion ratio. Not surprisingly, returns on all meat lines were at their highest in the mid 1980s, when feed costs hit their lowest levels since the mid 20th century even as higher Asian demand for chicken and pork pushed their prices higher.
Returns on poultry (and poultry production growth itself), peaked from the late 1990s to mid-2000s, when Southeast Asia's booming personal incomes mostly manifested themselves in rising white meat consumption, as the area has historically and culturally always had a bias towards eating chicken.
On the other hand, with its consumption near saturation point in the west, slow growth in European and North American incomes kept the returns on beef relatively low by comparison -a situation not to be reversed until the present day.
But an important inflection point occurred in 2005 and continued for the next eight years. Although the price of all protein lines kept increasing and usually set new records, feed crop price inflation strongly outstripped the rise in meat prices from that time through to early 2013.
This can be seen in the graph, which shows the ratio of all livestock prices to corn and divided by their feed conversion ratios falling significantly from the mid 2000s onwards. Although returns were partly restored after the 2008 financial crisis and ensuing recession, this was a pyrrhic victory of sorts: During the recession which occurred near the turn of the decade, prices of corn, soy and fishmeal fell strongly, and more rapidly than the price of meats.
But even so, the industry, though more profitable, did not regain the prosperity and returns it had enjoyed prior to the mid 2000s. No sooner did the world economy recover that the years from 2010 to 2012 saw two serious droughts in Russia and the Black Sea, three droughts in South America, exceptionally dry US growing weather in one year followed by the worst drought in half a century the next year.
Crop yields have not kept pace with meat demand for two decades. Thanks to the unusual streak of bad growing weather over the last three years, US crop yields are no higher today than they were five years ago. Similar, weather-induced stoppages in crop yield growth also occurred in Argentina and other major feed crop exporting countries; so much so that in some years in South America, rising planted area could not offset the a string of lower corn yields.
Although Asia and Latin America's strong economic performance led to record high prices for beef and pork, they were nowhere nearly enough to offset a 161% in the cost of CBOT corn and 78% increase in the cost of soy that occurred between June 2010 and August 2012. As a result, after recovering weekly during the 2008-09 recession, returns on meat and livestock fell even lower, even as feed crop farming became more profitable than ever.
Moreover, after regaining some previously lost profitability in 2008 and 2009, meat's resumption of more normal returns on investment were again disrupted by a succession of droughts. From Russia to America, Australia to Argentina, the years 2010 to 2012 saw a succession of arid weather bring inventories of corn and soy to historic lows. With the feed crop shortages occurring against a backdrop of global monetary expansion, corn and soy prices set a succession of new all-time records and meats could not catch up. Feed crop prices constrain meat supply, move cattle into feedlots
Moreover, high feed crop prices accelerated a trend that had already started earlier: From Argentina's Pampas to Brazil's interior and the US Midwest, the high returns offered by feed crops relative to meat accelerated a trend towards the conversion of cattle pastureland into soy and/or corn growing farms, with the cattle production increasingly driven into feedlots.
In New Zealand, feed crop hyperinflation resulted in a similarly motivated conversion of much beef cattle pastureland to dairy farming.
2013 - The latest inflection point
Be it prices, production or investment preferences, every market trend has a limit as sure as it has a beginning. This is also true of the relative upswing and downswing in feed and meat market fortunes from 2005 to 2012.
This year has seen a combination of market shifts and policymaking decisions that appear destined to make meat returns enter a new secular upswing while feed crop profitability appears destined to decline.
First, after several years of freak weather conditions, 2013's across-the-board, cross-hemispheric near-ideal feed crop growing conditions were multiplied by planted acreage, the latter motivated by several years of high feed crop prices. A record soy harvest in Brazil, near record soy harvest in America mean that after suffering from several years of bad Latin growing weather, world soy exports and inventories up by 19.1% and 30.5% respectively in just two years -with the prospect of record Brazilian and Argentine soy harvests hitting the market by the second quarter of 2014.
On the feed grain front, record harvests in America and the Black Sea coincided with large planted areas and good southern hemisphere growing weather over the last quarter. Hence, closing 2013-14 world corn inventories and exports are on track to rise 43% and 45% respectively.
But government policies also have a hand in meat and livestock's return to profitability: China's replacement of feed wheat with sorghum in feed rations means that by 2015, China will import 5 to 10 million tonnes of corn, rather than the 15 to 20 million tonnes many analysts projected 5 years ago.
In the United States, the Environmental Protection agency is proposing a roughly 10% scaling back in mandated ethanol production. -Even if the US corn harvest stays constant, that would result in the freeing up of at least 10 million tonnes of corn for domestic feed consumption and/or export.
Hence, as the accompanying graph shows, the strong, ongoing upturn in meat and livestock's profitability has some ways to rise upwards. Given the prospect of several years of high feed crop inventories, low prices and the continuation of Fed-induced easy money conditions, the resulting combination of high meat demand growth and low feed costs should see meat profits start to climb back towards their mid 2000s highs.
But even though profitability is returning to meat and livestock, the relative returns -and export dynamics -are changing among various protein lines. After years of leading the path, not only has pork's profitability trend turned upwards more sharply than that of poultry, but for the first time in a long while, on the back of East Asian demand, red meat exports are growing almost as quickly as those of poultry.
As Asia's consumers get wealthy enough to consume more of their favourite red meats, we find the MENA region taking over as the driver of world poultry export growth.
We look at this and other trends in the articles that follow.
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