Livestock Market Transparency is Possible. Here’s how.
Livestock Market Transparency is Possible. Here’s how.
Prime Future 004: the weekly newsletter highlighting trends in animal protein
Pricing is a hot topic in light of live cattle and boxed beef prices heading in opposite directions, and the same dynamic to a lesser extreme in pork. This week we're digging into the issues that need solving in pricing and markets.
The pandemic highlights the need for improved price discovery and market transparency across the entire meat, poultry, and livestock sector. These are great problems for technology to solve.
We’ll take a look at the market dynamics in poultry, but the same dynamics exist in markets throughout animal protein value chains, whether its the packer purchasing live cattle from feed yards or the processor selling pork to distributors.
Most chicken (meat) is sold through a forward contract, e.g. Pilgrim’s agrees to sell Chick-Fil-A x tons of tenders at y price over 6 months. The price can either be a fixed price or formula price, such as Price Benchmark plus or minus x cents/lb.
Or, chicken can be sold in the spot market, meaning the transaction is negotiated the week of processing
Alternatively, some volume is sold as part of a supplier’s formula business, meaning the customer is a fairly consistent buyer from week to week yet there is no contract except an agreed upon formula.
This is where it gets interesting….what is the Price Benchmark that serves as the foundation of formula pricing?
In poultry, most formula based pricing is tied to Urner Barry’s published market report which quotes spot market prices. If 10 to 30% of chicken is sold this way, then price reporting on the 10 - 30% becomes the foundation for pricing of 50+% of total chicken pounds sold.
The question then is, how reliable is the published market report? Two questions to assess this are:
How sound is the methodology for gathering prices?
Are the published prices reflective of what a buyer or seller in the market would see?
To question 1, Urner Barry calls buyers and sellers every day to ask at what price they bought or sold chicken. There is no verification mechanism (e.g. a supplier to validate a price that a buyer reported to Urner Barry) which leaves a lot of room for misaligned incentives for buyers to report prices lower than paid and suppliers to report prices higher than received. Hmm...
To question 2, as of 2017 Urner Barry had never published breast meat at a price below $1 going back 30+ years. Yet ask anyone in the poultry industry and they will tell you that predictably breast meat trades well below $1 every few years. Hmm...
Pork and beef markets do not share the same degree of vagueness as poultry since both are included in the Mandatory Livestock Reporting program by USDA. Packers are required by law to report accurate prices. However, there is room for interpretation in what prices get reported, e.g. is that meat in a branded program box or a commodity box? Is this price from a negotiated transaction or formula? Some lines are gray.
That same pricing inception, of the much larger volume of formula based pricing tied to the smaller amount of spot or negotiated prices, is raising concern among cattle producers and legislators that sparked the bill this week to mandate that packers negotiate 50% of their live cattle purchases. Here’s why that is an absurd solution though:
Buyers and suppliers (in all markets) often seek to reduce market risk, making committed (contract) business attractive.
Buyers and suppliers (in all markets) want to work with fewer counterparts (to some minimum point) to reduce transaction costs. Brokers exist for this reason, distributors exist for this reason
The reason buyers and suppliers are doing more committed business, whether fixed price or formula based, is because it reduces market risk and reduces transaction costs…for both sides of the transaction. It’s easier to buy from 5 suppliers than 50, its easier to sell to 6 buyers than 60. That’s real life for market participants of all sizes, but especially for larger companies. Processing isn’t the only space that has consolidated, that trend is true upstream in feed yards and downstream in retail and distribution. The industry structure is not likely to change, and incentives to reduce risk and transaction cost are not going to change.
And yet, the entire process of market making and price discovery in cash markets needs a facelift. There’s a massive innovation gap that was last filled by….USDA mandatory reporting? We can be better.
Just look at the information and tools at your disposal when buying a car, or a house, or farmland. Carvana, TrueCar, Zillow, OpenDoor, Farmland Finder - all companies improving access to information or improving the process of buying and selling assets.
The path forward is to use technology to put more information in the hands of buyers and sellers whether that’s the cow-calf producer selling to the backgrounder, the feed yard selling to the packer, the independent hog farmer selling to the processor, or the poultry integrator selling to the retailer.
Two gaps:
Increase access to real time price, volume, and market participation data
In markets with high degrees of suspicion (founded or not), tools that verify or increase trust in pricing are valuable. I see price discovery as an excellent use case for blockchain once the technology evolves and market participants are willing to adopt in order to verify reported prices. This would eliminate the Urner Barry “is this person reporting an accurate price” problem, and could expand across all beef and pork including what’s not reported through USDA.
Caveat: Buyers and sellers need tools to be smarter and better informed….they do not need online marketplaces. It's easy to look at an inefficient market with structural challenges and think that an online marketplace would solve it, but that doesn’t account for the realities and nuances of these markets which include human psychology. I say this as someone who made this mistake. Here’s a twitter thread with some learnings.
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Farmers
Two markets needing an update that farmers interact in directly are:
Contract poultry farmers that seek more visibility into integrator pay, and how other integrators pay contract farmers
Cow-calf producers (highly fragmented market) that could use more operational flexibility of ways to sell weaned calves. This is one market where an online marketplace could make sense.
Processors
Packers, retailers, and foodservice were watching the Choice Cutout climb with no end in sight until Wednesday, when Tyson decided to price meat below USDA prices. For formula or negotiated business, this meant separating prices from the typical formula of USDA price +/- some amount. And the result was reflected the next day in USDA prices, with the choice cutout now down $20+ since that strategic decisions to prioritize long term consumer demand over short term profit. Smart. (WSJ Article)
End Customers (Foodservice, Retail)
"Chipotle Finance Chief John Hartung told analysts last month that online sales tended to recur since the customer had already saved order and payment information in a mobile app.”
Inserting technology into the transaction process usually has ancillary benefits, whether this Chipotle example of increasing recurring revenue because of customer ease or the real benefit to companies engaging in the D2C sales channel.
A deeper dive into the real benefit to engaging in the D2C sales channel in animal protein, using a D2C insurance startup case study:
“This treasure trove of data about customer behavior informs Lemonade’s understanding of their target customer including buying behavior, which then informs Lemonade’s ability to improve the customer experience through better processes AND better products. The power of a shortened feedback loop.”
Tech Ecosystem
If you haven’t yet, this call to action by venture capitalist Marc Andreessen is a must read for COVID times and beyond:
“Our nation and our civilization were built on production, on building. Our forefathers and foremothers built roads and trains, farms and factories, then the computer, the microchip, the smartphone, and uncounted thousands of other things that we now take for granted, that are all around us, that define our lives and provide for our well-being. There is only one way to honor their legacy and to create the future we want for our own children and grandchildren, and that’s to build.”
For those considering launching online marketplaces, check out Bill Gurley’s classic piece on marketplaces and how to evaluate markets where that makes sense.
Shane Thomas’s article in Upstream Ag about opportunity for online marketplaces across agribusiness - a distinctly different market structure from the animal protein value chain.
About Janette
Janette Barnard works to enable technologies throughout the animal protein value chain. She leveraged her commercial experience with Elanco Animal Health, Cargill, and McDonald’s Global Supply Chain team to launch and grow two animal protein focused startups. Janette is now a principle in Rock Road Consulting, helping companies to launch, source, and fund innovation.