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January 26, 2007

Table of Contents
Giving Up G-Stalls Carries Consequences
Food or Fuel?
Call for Biofuels Working Group

Market Preview
Giving Up G-Stalls Carries Consequences
Smithfield Foods' announcement on Thursday that it would phase out gestation stalls in its 187 company-owned farms over the next 10 years was a surprise to many people. I believe the real shock factor came from the fact that a company that now accounts for just over 1 million U.S. brood sows (per Successful Farming's 2006 Pork Powerhouses listing) was the first to make the move. It begs the question "What will be the impact?"

Smithfield's move will have an economic consequence. This industry did not grow with stall gestation systems by accident. They exist because they work. They keep sows from hurting one another after weaning. They create a better environment for embryo implantation. They allow sow body condition to be managed on an individual basis. And, they provide a safer work environment for workers. These are all economic pluses for the modern pig production unit and virtually all of them will be lost to some degree in a move to complete group gestation systems.

Moving away from a gestation stall system will be costly for Smithfield. Beyond the significant costs of remodeling will be the loss of the lion's share of the factors listed above. Most of those can be managed and it is interesting to note that Smithfield's neighbor in North Carolina, Maxwell Foods (Goldsboro Hog Farms), has done so successfully for years. Group gestation certainly has not limited Maxwell Foods prospects -- ranking it 10th in the Pork Powerhouses listing with 76,000 sows. There is one caveat, however. Maxwell Foods uses stalls for the first 35 days after weaning. There is no indication in Smithfield's announcement that they plan to include a short stay in gestation stalls, post-weaning.

The second economic consequence is that it may force others to follow. Smithfield says that its decision was based on the desires of its customers and is not meant to force anyone else to do the same. I take them at their word. But, the fact is, other retail and foodservice customers are liable to begin the "me too" cry very soon as they see McDonald's, Wal-Mart and others begin touting a "sow friendlier" product. Intended or not, that will probably be the effect of Smithfield's announcement.

I only hope that these retail and foodservice companies are correct in their judgment of their customers' desires. The research that I have seen indicates that the vast majority of U.S. consumers don't care much about these matters. But it appears that U.S. grocery stores and restaurants will do whatever they have to do to keep that PETA guy in the carrot suit from standing in front of one of their stores. More important, they will do what must be done to prevent more serious and dangerous forms of coercion, such as the violence that has been seen in Europe from strikers. Let's hope their customers don't mind paying more to keep that from happening.

So, is this the first domino to fall or the domino that, by falling, prevents others from tipping? After the lost referendum in Arizona, it appears that animal rightists and welfarists will continue their attack on at least this production practice, on a state-by-state basis. With Democrat majorities in both houses of Congress, these activists have a fighting chance of getting some elements of their program included in the next farm bill.

I'm afraid that there are dominoes yet to fall, and my real concern is whether we can successfully defend and continue the use of farrowing stalls, whose economic importance is, I think, immense. The good thing is we can stand as the defender of the helpless baby pig.

Good News in Lean Hog Futures
On a happier subject -- take a look at the Chicago Mercantile Exchange (CME) Lean Hogs futures. We've seen a very nice rally, which shows few signs of weakening.

On Wednesday, April futures broke through two important resistance lines -- May through August all set contract life highs and October and December were within 50 points of doing so. The average of the eight 2007 contracts at Wednesday's close was $70.075. That's the equivalent of $52.55/cwt. liveweight. That price would cover all of the increase in production costs seen thus far, plus a little. Who would have thought that with corn over $4 and soybean meal near $220, we could still make a little money?

There is a catch, however. These prices are good, by any measure, but CME Lean Hogs futures for June through August (there aren't enough data to draw a conclusion about May Lean Hog futures) have historically peaked in late April. Even the October and December contracts have been near their historical peaks at that same time. Thus, the question remains: Do you sell on this rally or wait?

Producers should watch this rally closely and consider selling some hogs for summer delivery when it shows signs of running out of steam. How many times have you sold hogs for $75/cwt. (carcass basis)? I think the answer for most would be "not many." As Professor Glenn Grimes of the University of Missouri suggests: Sell a percentage and hope you're wrong because that will mean you get higher prices for the remainder. Watch prices relative to a 5- to 10-day moving average for a topping signal.

Click to view graphs.

Steve R. Meyer, Ph.D.
Paragon Economics, Inc.

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Financial Preview
Food or Fuel?
Sometimes, others express thoughts that reflect our own thinking so clearly that we proclaim, "I couldn't have said it any better." This is one of those times. I received the following commentary from one of my clients and it summarizes the thoughts I planned to share with you this month:

"As we try to understanding the ever-changing commodity businesses we are involved in, one thing appears apparent -- the value of corn is currently, and will continue to be, tied to the value of oil. With the growth in the ethanol industry, we will soon approach a time when over half the corn produced in the United States will be consumed for ethanol production.

From a historical perspective, corn prices averaged approximately $1.10/bu. during the '50s, '60s and early '70s. In 1972, corn underwent a phase shift that resulted in an average price of approximately $2.30/bu., which has lasted for 33 years. It appears we are currently experiencing a phase shift similar to that experienced in 1972, where corn will trade in the $3-$4/bu. range. Based upon current energy costs, it appears that ethanol breakevens are in the range of $4/bu., thus putting a potential upper limit on the value of corn -- barring a drought.

"So what does this all mean for the average pork producer? From a cost standpoint, the recent increase in feed inputs has resulted in an increase in feed costs of approximately $15-16/head in a farrow-to-finish operation. On a 270-lb. pig, that has resulted in an increase of $5.75/cwt. (live) or $7.55/cwt. (carcass). The industry has also experienced additional cost pressures due to freight, propane and facilities costs.

"Historically, all commodities have moved in tandem concerning value. The old adage -- cheap corn means cheap pigs and expensive corn means expensive pigs -- has historically held true. It only makes sense that commodity products move in tandem. When you analyze the cost to raise a pig, close to 70% of the cost is tied directly to the input costs of commodities. Whether feed, fuel, building materials or transportation, all these inputs ultimately affect breakevens. So, it is logical that over time a phase shift in one commodity will result in a phase shift in other commodities that rely on that commodity as an input.

"If we look at the historical value of pigs, we see that their value doubled during World War II. The primary driver at that time was the value of the lard, which was used as lubrication in the manufacturing of shell casings for the war effort. For the next 30 years, the price of pigs averaged approximately $22/cwt. (live).

"During the early 1970s, when oil tripled in value, corn doubled in value, and pig prices also underwent a phase shift that resulted in an average price of approximately $47/cwt. (live) for the next 30 years.

"If you add up all the cost increases to raise a pig in the last three years (feed, fuel and building costs), a new system today would have additional costs of approximately $25/pig vs. costs in the early 2000s. That is over $9/cwt. (live). From a simple math standpoint, to achieve similar economic returns as the industry had for the last 30 years, pig prices going forward will need to average in the mid- to upper-$50s/cwt. (live).

"As with any change in commodity values, over time, the increase in value is ultimately passed on to the consumer. The most direct impact to the consumer is felt when oil increases in value.

"During the previous two phase shifts in the price of oil, gasoline prices basically doubled in cost. If we break down the cost structure of pork products, a 270-lb. pig will produce a carcass weighing 205 lb. If the entire increased cost ($25) is passed on to the consumer this would result in an increase of $0.12/lb. of carcass. That same carcass on a boneless basis will weigh approximately 130 lb., which would result in an increase of $0.19/lb.

"Ultimately, with current fuel and feed prices, the consumer will pay an additional $0.12-$0.20/lb. for their pork products to sustain the recent increases in commodity inputs for the pork industry. The average American consumes about 50 lb. of pork products/year. If the entire cost is passed on to the consumer, it would result in the additional spending of $10/year for their pork products or roughly 20¢/week. In the macro scheme of things, this is not a huge cost to pass along."

Mark Greenwood
Swine Industry Consultant
Contact Greenwood at


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Legislative Preview
Call for Biofuels Working Group
The National Pork Producers Council (NPPC) and a number of producer organizations and industry groups have asked USDA to form a panel to study the emerging biofuels economy and its implications for livestock producers and animal agriculture. In a letter to Secretary Mike Johanns, the group said, "Public focus on agricultural issues continues to expand as new and exciting technologies place the agricultural sector in the driver's seat of America's energy future. However, with these changes and developments have come serious and significant concerns for the tens of thousands of farmers, farm families and all those involved in the $128 billion livestock, dairy and poultry sectors." The purpose of the working group is to "study the emerging biofuels economy and its full implications for these producers, the sector and the consumers they supply and serve." Joining NPPC in the request are the American Meat Institute, National Cattlemen's Beef Association, National Chicken Council, National Milk Producers Federation and National Turkey Federation.

20-in-10 Energy Program -- President Bush, in his State of the Union address, called for the reduction of gasoline use in the United States by 20% in the next 10 years. To accomplish this feat -- known as the 20-in-10 program -- President Bush is asking for an increase in the supply of renewable and alternative fuels by setting a mandatory fuels standard of 35 billion gallons in 2017. He is also asking to reform and modernize the Corporate Average Fuel Economy (CAFE) Standards for cars and extending the current light truck rule. According to the administration, these efforts would reduce projected annual gasoline use by up to 8.5 billion gallons in 2017.

USDA Proposes $1.6 Billion in Renewable Fuels -- Secretary of Agriculture Mike Johanns announced that USDA plans to propose $1.6 billion in new funding for renewable energy, with a focus on cellulosic energy research and production as part of USDA's 2007 farm bill proposal. Johanns said, "It remains a priority across USDA to support the development of biofuels. We will continue to build on current programs and turn the corner on renewable energy."

Groups Call for Competition and Concentration Issues in the Farm Bill -- The National Farmers Union (NFU) and over 200 organizations have written the leadership of the House and Senate Agriculture and Judiciary Committees urging them to make the issues of agricultural competition and market concentration a top priority in the 2007 farm bill. The groups support captive supply reform, ban on packer-owned livestock, fairness standards for agricultural contracts and mandatory country-of-origin labeling (COOL). Some of the groups joining NFU are American Corn Growers Association, Center for Rural Affairs, Family Farm Defenders, Farm Aid, The Humane Society of the United States, National Catholic Rural Life Conference, National Farmers Organization and R-CALF.

House Ag Subcommittees Named -- The House Agriculture Committee organized this week and named subcommittees for the 110th Congress. The following subcommittees were formed:
  • Conservation, Credit, Energy and Research: Congressman Tim Holden (D-PA), chairman, and Congressman Frank Lucas (R-OK), ranking member. Jurisdiction: soil, water, and resource conservation, small watershed program, energy and bio-based energy production, rural electrification, agricultural credit, and agricultural research education and Extension services.

  • Department Operations, Oversight, Nutrition and Forestry: Congressman Joe Baca (D-CA), chairman, and Congressman Jo Bonner (R-AL), ranking member. Jurisdiction: agency oversight, review and analysis, special investigations, food stamps, nutrition and consumer programs, forestry in general and forest reserves other than those created from public domain.

  • General Farm Commodities and Risk Management: Congressman Bob Etheridge (D-NC), chairman, and Congressman Jerry Moran (R-KS), ranking member. Jurisdiction: Program and markets related to cotton, cottonseed, wheat, feedgrains, soybeans, oilseeds, rice, dry beans, peas, lentils, the Commodity Credit Corporation, crop insurance and commodity exchanges.

  • Horticulture and Organic Agriculture: Congressman Dennis Cardoza (D-CA), chairman, and Congressman Randy Neugebaur (R-TX), ranking member. Jurisdiction: fruits and vegetables, honey and bees, marketing and promotion orders, plant pesticides, quarantine, adulteration of seeds, and inspect pests and organic agriculture.

  • Livestock, Dairy, and Poultry: Congressman Leonard Boswell (D-IA), chairman, and Congressman Robin Hays (R-NC), ranking member. Jurisdiction: livestock, diary, poultry, meat, seafood and seafood products, inspection, marketing, and promotion of such commodities, aquaculture, animal welfare and grazing.

  • Specialty Crops, Rural Development and Foreign Agriculture: Congressman Mike McIntyre (D-NC), chairman, and Congresswoman Marilyn Musgrave (R-CO), ranking member. Jurisdiction: peanuts, sugar, tobacco, marketing orders relating to such commodities, rural development, farm security and family farming matters, biotechnology, foreign agricultural assistance and trade promotion programs, in general.
P. Scott Shearer
Vice President
Bockorny Group
Washington, D.C.

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